Build a diversified portfolio
The title sounds logical, yet why and how do we accomplish this and how do we know when I am there.
To answer this lets first examine your risk tolerance. On a scale of 1-10, and 10 being high, where would you say your risk tolerance is?
If your answer is five, then approximately 50% or more of your investments should be in safer or conservative investment holdings. If your risk tolerance is five, then your portfolio diversification could be constructed as follows:
50-60% into term deposits, bonds and bond funds, and fixed income options.
40% into equities such as dividend income and growth or common stock funds. You end up with a 60/40 asset mix.
Now measure that over time and see how the volatility of that mix over time is compared to your comfort level. From 1950-2002 the average annual return is 9.4% on a 60% fixed income and 40% equity mix. (research provided by Dynamic Mutual funds). The best year return was 25.5% and the worst year was a decline of 10.5%. The probability of gain in that period of time was 84.9% meaning that almost 85% of the time the investor was in a gain position compared to 15.1% of the time in a loss position.
This type of investor wants to generate a solid level of income and tolerate small shorter-term decreases for additional long term gains and income. The primary goal is capital preservation and income. Once you know your portfolio is there at the asset mix that matches your risk tolerance, staying there is the challenge for most investors.
Markets ups and downs, new opportunities and personal financial changes make it a challenge to say, “I’m sticking with my plan or I’m staying with my portfolio allocation and making changes based on my portfolio mix”, not looking at timing markets or switching because of low-interest rates. Once you have diversification, it’s easier to stick with it than to chase returns.