The investments in your portfolio can be comprised of a wide range of asset classes. They might include stocks, government bonds, corporate bonds, real estate investment trusts (REITs), exchange-traded funds (ETFs), mutual funds, and certificates of deposit. Also, you may want to include hard assets, such as commodities, commercial or residential real estate, and timber.
A well-constructed and well-maintained investment portfolio is vital to your success. This begins with:
- determining an asset allocation that best conforms to your personal investment goals, and
- your tolerance for risk.
1. Asset Allocation
Establishing an appropriate asset mix is a dynamic process, and it plays an important role in determining your portfolio’s overall risk and return.
To achieve the ideal asset allocation you must determine your individual financial situation and investment goals. Important things to consider are age, how much time you have to grow your investments, as well as amount of capital to invest and future capital needs.
The motivation of asset allocation is to put your money to work in the best possible places, and in doing so, spread your risk across different investments so you won’t be overly exposed to a downturn in one particular sector. Throughout the entire process of allocating assets to your portfolio, it is important that you remember to maintain your appetite diversification above all else.
2. Risk Tolerance
Another factor to consider is your tolerance for risk. You should have a realistic understanding of your ability and willingness to accept large swings in the value of some investments.
Factors that can affect your risk tolerance are:
- the amount of time you have to invest,
- your future earning capacity, and
- the presence of other assets such as a home, pension, inheritance, etc.
Generally speaking, the more risk you can handle, the more aggressive your portfolio will be. This could mean that you devote a greater portion of your portfolio to the risky stock market, and less to bonds and other fixed-income securities. Other the other hand, if you prefer less risk, your portfolio will be more conservative; in order to protect its value.
Building a well-constructed and well-maintained investment portfolio is a complex process. It requires that you constantly analyze your personal financial situation and balancing it against your goals and objectives. Factors that are likely to evolve over time are your financial situation, future needs, and risk tolerance. When these things change, you must adjust your portfolio accordingly.