One of the ways that investors diminish the worth of their investments is by acting against common sense and their financial adviser’s recommendations. One common mistake is to develop a sound investment strategy and then change it on a whim or in response to a popular news story. Retaining holdings even if there is a slight dip in the market is just as important as that initial sound strategy. Good strategy will include purchasing holdings on more than just good reports and media buzz.
Another important consideration is how the proposed holding will fit into a portfolio and into an overall investment strategy. Buying or selling merely based on the rise and fall in prices is not the best strategy. For example, clients who sell holdings when the market has a few down days in a row, only to reinvest in equities when the market rises, not only run the risk of buying back in at higher rates, but they also waste a certain amount of money on brokerage and other service fees that they would avoid by waiting it out.
Another mistake of the investor who doesn’t take a long and practical view is focusing holdings too narrowly. One example is believing that gold is always a safe investment. At various times, gold has actually not provided a good return. Maintaining a gold-only strategy will prove to lack stability, compared to a portfolio that includes both gold and other types of investment, such as NASDAQ traded stocks.
Other examples include keeping all of one’s retirement in a single fund, which makes it vulnerable if prices drop, or focusing strictly on domestic holdings with no international investments. Diversification can benefit in these cases as it allows a fund to maintain value even when the prices change.
Even though diversification is important, too much can be harmful. Too much diversification can dilute the power of investments and lead to organizational difficulties. At most, investors should consider using only two brokers and focus on a reasonable diversification strategy.
The best model for diversifying a portfolio is to invest in several different types of securities, stocks, bonds and real estate. This will keep investors from putting too much risk in any one type of investment. Some investors use the following rule of thumb: subtract age from 100 and invest that number (as a percent) in stocks, with the rest going into bonds. In other words, at 35 years old, 65% of assets should be in stocks and 35% in bonds. From there, make 10-25% of your stocks international and take 5% from each category to invest in real estate.
By understanding that investing is not about quickly playing the market to get rich quick, investors can stand to gain quite a bit from their portfolio. When investing, aim to have a diversified portfolio that you can hang onto for years to come. This will allow you to see real returns in the future.
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