4 Steps to Building an Investment Portfolio
Any investor that wants to be successful in the current financial marketplace has to maintain their portfolio well. You have to know how to allocate assets to best suit your risk tolerance and investment goals. Using a systematic approach, investors can create a portfolio that is aligned to their investment strategies.
Here are the steps to help you take such an approach.
Step 1: Know the Right Asset Allocation for You
The first step in building a portfolio is understanding your current financial situation and your goals. Some of the important factors you should consider include your age, the time you have, future income needs and the amount of capital at your disposal.
Another thing to have in mind is risk tolerance and personality. Can you willingly risk your money in the hope of future great returns? All investors fancy the idea of reaping profits year in year out. However, if a short-term drop is likely to give you sleepless nights, then maybe you should stay away from high-return assets.
When you understand your risk tolerance, future capital needs and current situation, you will be able to determine how to allocate your investments among different classes of assets. The potential of high returns is usually accompanied with a higher risk of losses.
Step 2: Achieving the Portfolio
After deciding on the perfect asset allocation, it is time to spread your capital over the right asset classes. This is easy on the basic level; bonds are bonds and equities are equities.
You can, however, divide the asset classes further into subclasses; these ones also vary in terms of potential returns and levels of risks.
In choosing securities and assets, you can use several methods to suit your strategy.
Stock picking: ensure that the stocks you pick are in accordance with your risk tolerance. Use stock screeners to analyze companies and narrow down your options.
Bond picking: consider the interest-rate environment, bond type and rating, maturity and coupon.
Mutual funds: you can opt for those that are picked by professional fund managers.
Exchange-Traded Funds (ETFs): ETFs are a great alternative to mutual funds.
Step 3: Reanalyzing Portfolio Weightings
After your portfolio is established, you have to assess and rebalance it occasionally. Market movements can have an impact on your initial weightings. Categorize your investments quantitatively and check the proportion of their values to assess the actual asset allocation of your portfolio.
Other factors like your risk tolerance, future needs and current financial situation may also change. If they change, it may be wise to make some changes to your portfolio.
To rebalance, check your underweight and overweight positions.
Step 4: Rebalancing Strategically
Once you know which securities should be reduced, choose the underweighted securities that should be bought using the proceedings you get from selling your overweight securities.
Before you jump into selling your assets so as to rebalance the portfolio, make sure you understand the tax implications that come with that. The securities’ outlook is also another important factor.
