Portfolio Management

The term “financial portfolio” is just a fancy way of referring to an investor’s collection of investments.

These investments commonly include stock and bond holdings, mutual funds and exchange-traded funds. They may also encompass any other speculative or financial market tools an individual uses to grow his or her wealth.

Portfolios can be actively or passively managed. To decide what type of portfolio management is right for them, investors need to know what they want, what they are comfortable with and what timeframe they are working within.

Key Questions to Get You Started

To figure out what style of investing is right for them, smart investors begin by looking at the bigger picture of their lives and personal goals.

  • What are you looking for? Are you saving for retirement? Building up a college fund for your children? Knowing what you want your investments to create for you is essential to making good decisions about when, where and how to invest.
  • How long do you have? How long an investor has to reach his or her goals makes an enormous difference in which strategies he or she pursues. For example, a college graduate saving for retirement has much longer to accumulate the desired level of return on investment than a worker in his or her forties or fifties. Learn more about saving for retirement later in life here.
  • How much can you afford to invest? Knowing what resources and assets you have available to safely and comfortably invest can play a key role in deciding which types of investments are most viable for you. Experts differ on the maximum percentage of income or assets it is safe or wise for an individual or household to invest. However, a uniformly accepted minimum guideline is for investors never to invest anything they cannot afford to lose.
  • How comfortable are you with risk? As a general rule, the higher the level of risk associated with an investment, the higher its potential for return. Lower-risk investments typically provide lower returns that are more reliable. Investors should evaluate not only the risk associated with a particular investment opportunity but the level of risk assigned to their portfolios as a whole.

Answering these questions can give investors a solid idea of what they are working with and where they need to focus their portfolio management efforts. It is important to remember that as investors age, their needs, lifestyles and priorities may also change. As a result, it is helpful for investors to revisit these core questions regularly so that they can change or adjust their portfolios and strategies if needed.

Creating a Portfolio

Once an investor is clear on his or her needs and priorities, he or she is ready to start investing. Using the answers to the questions above, investors should select a mix of investments that align with their goals, their comfort with risk-taking and their timeframes. Choosing where to invest is referred to as asset allocation. Assets (the money an individual is investing) can and should be spread across a number of different opportunities. This is called diversifying. To diversify effectively, investors can:

  • Choose different types of investment opportunities. Rather than putting all of their funds in one kind of investment tool (e.g. stocks, bonds, mutual funds, etc.), investors can divide their money between tools. This increases the likelihood of reaping the benefits and minimizing the negative aspects of each. It is also wise, when possible, to spread investments across industries and geographic market sectors. This reduces the overall impact to a portfolio when unexpected events disrupt a given industry or area.
  • Invest at different levels of risk. Investors can both protect themselves and pursue the level of returns they want by investing in both high- and low-risk opportunities. This increases the chances for reaching one’s desired rate of return while also largely ensuring that an investor does not lose the entirety of his or her holdings in the event of a market downturn.
  • Research first. All investors are encouraged to do their due diligence on any company or opportunity in which they are considering investing. Do they have a good track record? Are they operating legally and efficiently? Have they published anything about future plans? Are they fiscally and operationally stable?

Important Portfolio Management Considerations

Many investors rely solely on minimizing risk (also sometimes referred to as “risk aversion”) when designing and managing their financial portfolios. While this may protect them from more volatile investments, it often fails to provide the level of returns investors desire. Balanced and diversified investments, at least some of which include higher risks and returns, tend to be more effective overall. Although investors do not always consider their retirement savings as part of their financial portfolios, they should generally be included when reviewing, planning and making decisions about one’s portfolio. Maximizing the matching-funds options and tax advantages associated with IRAs, 401(k) plans and/or 403(b) plans can significantly improve an investor’s overall financial portfolio and long-term financial security.

One of the most crucial and most frequently overlooked aspects of managing a financial portfolio is timing. Investors who begin investing early have vast advantages over those who do not start investing until later in their lives. Even very small investments made early and allowed to mature over time can yield impressive returns. This is particularly true and valuable for investors who prefer lower-risk investing. Low-risk investments, as noted, tend to have lower yields.

For example, imagine that an investor initiates a small, low-risk investment in his early twenties. Each year, he then automatically re-invests the annual dividends back into that same investment. Over the next several decades, as the investor works and builds his portfolio in other ways and using other tools, that low-risk tool slowly but steadily and consistently amasses both principle and profit. By the time the investor is ready to retire or otherwise cash it out, compound interest and patience will have created a solid nest egg of income with exceptionally low risk and very little effort. If that same investor waited until he was forty to begin investing, then that low-risk investment would return less than half of the amount it would have earned had he started in his twenties.

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