Building portfolio is no easy task. If you want to learn how to structure your portfolio so that you minimize risk, but also don’t leave money on the table.
Keep reading, because that’s exactly what I’m going to do in this post.
I’m going to show you how to structure your portfolio properly.
so that you minimize risk, but also keep a lot of the profit in the portfolio.
Table of content
- Introduction
- Why build a portfolio? (Building Portfolio explained)
- How to build a portfolio?
- What should be included when building portfolio?
- Conclusion
Introduction
What exactly is an investment portfolio and why is it important?
It’s actually one of the most important things in investing, it’s the most important component of every single investor.
the portfolio is crucial for your success in investing and also in managing money.
Definition:
The portfolio is an investment portfolio is a basket of assets that may include stocks, bonds, cash, and other financial securities
Why build a portfolio? (Building Portfolio explained)
The Problem
The average retail investor who’s invested in individual securities may face the problem of his entire portfolio falling when the stock market falls.
Other retail investors who’re smarter have invested in several stocks, but the problem is that they’re correlated stocks.
that means they all move together. So if the stock market goes down, so will his entire portfolio.
In order to solve that problem we need.
1. avoid correlated assets
2. need to understand risk and return.
“Investing in a single security did not make sense”
to reduce risk, it’s necessary to avoid a portfolio in which all securities are highly correlated.
This means we need to avoid correlated assets.
“Since there were two criteria, risk and return, it was natural to assume that investors would choose from a set of optimal risk-return combinations.”
so we also need to understand risk and return.
My method is to never try to time the market. timing the market isn’t about day trading or swing trading.
when I build a portfolio, it means that whenever I invest money in the market, I invest for the long term and for quality.
That’s the reason why fluctuations, jumps, and prices are meaningless.
And the answer to that’s quite simple. You can’t predict where the next step of the market will be.
there’s no algorithm or any kind of anticipation or science that can predict the next move of the market.
The timing of the market is nothing more than a gamble in my opinion.
How to build a portfolio?
One of the most important tasks in investing is knowing where you invest your money, also known as asset allocation.
many experts agree that asset allocation is probably the most important factor in determining your investment success.
Here are some important concepts and principles I’ve learned to help you with your own asset allocation.
The perfect portfolio allocation doesn’t exist, it’ll be different for each person as there are several factors that we need to consider.
First, we need to determine the goal of investing, i.e., what we actually want to achieve.
Second, we look at the major asset classes, i.e., all the different places you can put your money.
And third, the risk curve is a critical factor, because you need to decide where you’re on the risk curve.
Objective – (Building Portfolio explained)
What’s the real goal of investing?
in its simplest form, it’s about using money to make more money
when we do that, we take some risks with our money. So it’s always about what ratio of risk to reward we can achieve
We should spend our time analyzing the risk.
Major asset classes – (Building Portfolio explained)
Stocks – by buying stocks, it all depends on how much risk you’re willing to take.
this could be index funds or ETFs, it could be individual stocks or options
Bonds – by buying bonds you could be super safe with government bonds or venture out to corporate bonds or even high-yield and junk bonds.
Property asset – residential or commercial, it could be a single-unit multi-unit apartment building.
Cash – it equivalent to money in the bank
Commodities – gold and silver or oil and other commodities like sugar, wheat, etc…
Cryptocurrencies – coins like bitcoin or Ethereum.
Other – Artwork, Cars, and NFT.
The risk curve is a critical factor – (Building Portfolio explained)
The risk curve essentially consists of two parts: the potential reward and the risk.
How much risk you’re willing to take, as investors?
This risk curve is different for everyone because we all have different situations: Some people have a high income, and others have low incomes.
The size of the portfolio is also likely to be very different.
everyone has a different risk tolerance.
there are people who just don’t want to take a lot of risks, and there are people who like to take a higher risk to get a higher potential return.
There are different goals, whether we’re trying to double our money in the shortest amount of time or build a solid retirement.
Different financial knowledge,
And the last point is that we’ve our own personal opinions and biases.
A final word about the risk curve
It All depends on where you want to sit on the risk curve so we know the objective of investing is using money to make more money.
By doing that we are essentially putting our money at some degree of risk.
The whole idea behind building a portfolio that is diversified
is that it lowers your risk and also the chances that you could lose
everything by putting all your money in one place.
“So, the million dollar question is not what is the perfect portfolio
it’s what is the perfect portfolio for you”
There are 2 ways to build a portfolio,
If you choose the easy way and don’t want to deal with managing your portfolio, just buy an ETF on the S&P 500 and you can enjoy the returns of the market without having to deal with it.
However, if you’re willing to accept the risks that come with the potential gains, in this post I’ll show you how to allocate your money among the different types of investments so that your portfolio is well protected but also poised for the gains.
What should be included when building portfolio?
Let’s go over it in detail, how do you want to structure your portfolio?
For simplicity, let’s say that I have $100,000 available cash to work with.
First liquidity, I take 15% and put it in reserve.
I want to have at least 15% liquidity on my assets, for emergencies.
With the rest of the money, 85%, I’ll take another 15% and buy ETFs that track the market, which is the S&P 500.
There are so many in the US like Charles Schwab, Fidelity, and Vanguard that have those products, it does not matter if it index fund or an ETF.
The main things to focus on are the expense ratio, which is how much they’re gonna charge you per year.
You obviously, wanna keep these as low as possible, Vanguard fees are very low, last time I checked.
Now, what should I do with the rest of the money?
I’ve left 70% to distribute, from that I’ll take another 30%
and invest it in blue chip stocks for long-term investment. Companies like Apple, Google, Adobe, and Amazon.
These companies are safe, meaning they’ve low debt, free cash flow, a wide moat, and have been making profits for at least 5 years in a row.
Now we’ve 40% more to play with, I’ll put the rest of the money into high-growth stocks.
And by growth companies I don’t mean penny stocks, speculative stocks, etc… I don’t want to gamble with my money.
I want good, established companies that have more potential than normal companies. As you know, growth comes with more risk.
Companies that meet these criteria, such as disruptive, innovative companies, and tech companies.
We can include in this list companies like Tesla, Nio, and Palantir… include. Those are companies that have a lot of potential but also a
lot of risks.
Conclusion
Building portfolio isn’t rocket science, it’s as simple as setting clear rules, and clear boundaries, being cautious, conservative, and sticking to your own rules.
That way you have a hedge that protects you from all the unknowns and allows you to enjoy much of the upside of a bull market.
if you’re conservative, you’ll miss much of the upswing, but you’ll also be much better protected.
I hope I’ve simplified this for you, especially for beginners.
the key points to remember: it’s about being uncorrelated and making sure your portfolio is diversified so you can increase your return and decrease your risk.
Another key component when building portfolio is to know when to invest and on what, you can read it all in those post
“The Dollar Cost Average” and “Trading edge for consistent profits“