It’s rarely a good feeling to look at your portfolio and be left wondering why on earth you bought some of the stuff in it. It’s even worse when you scroll through your list of holdings and find a share you barely recognize. But the truth is, it’s all too common for an investment mix to become a jumble of mismatched assets over time.
Thank goodness the solution here is pretty simple: now and then, you just need to sort through your portfolio and do a little tidying up. Here’s how to keep things shipshape.
Okay, where do you start?
A good first step is to consider how you’d like your investments to fit together, what you want them to do, and how this matches your risk appetite. In other words, look at your asset allocation: that’s the fundamental building block of successful investing.
Investing is a long-term game, and long-term investors should construct a portfolio with a “core” comprised of stocks and bonds, and “satellite” positions made up of alternative assets, such as commodities or property. There are no right or wrong formulas: what’s important at this step is finding an investment combo that suits your goals, age, and risk tolerance.
For example, if you’re comfortable taking on more risk and you want as much growth as possible, you might have a portfolio that’s heavier in stocks and much lighter on bonds. If you are more cautious or looking for income, on the other hand, more exposure to bonds could be the way to go. Or by combining the two approaches, you could get a bit of both: growth and income.
Just keep in mind that market fluctuations can change the value of your investments and cause your portfolio to drift, which could expose you to more risk or less growth than you originally planned.
And that’s why you’re resolving to do these periodic tidying sessions: by occasionally rebalancing your portfolio, you can correct those “drifts” and get back to your intended asset mix.
How do you decide how many assets to hold?
With investing, diversification is vital. And that means holding investments across asset classes, sectors, and geographic regions.
Investors hear a lot about the importance of holding a diversified portfolio and not putting all their eggs in one basket. But it’s also possible to pick up such a long list of shares, bonds, and ETFs that they go from diversification to “diworsification”.
See, a hodgepodge of investments can start overlapping and detracting from the job they should be doing. There is a balancing act to be done: holding enough investments to diversify while not trying to hold too many.
If you’re making your first foray into the stock market and have $1,000 to invest, a single ETF might be just what you need. You could buy a one-stop-shop, multi-asset fund that would give you stocks and bonds – and instant diversification.
As your portfolio grows, you could create your own diversified portfolio by selecting funds from different asset classes, regions, company sizes, and investment styles (such as growth or value). And at that point, about ten funds should give you a well-diversified batch.
If you’ve got more than 20 funds, it’s probably time to review them and make sure each one is pulling its weight in terms of performance. You’ll also want to check whether they’re sufficiently different from one another too.
If you have funds that make up less than 2% of your portfolio, those are also worth some scrutiny. They may not be adding much value.
How do you decide what to keep and what to toss?
Stock-picking investors are often advised to run their winners and cut their losers. That can be tough to do, as it is tempting to cash in big gains and hold on to big losses in the hope that a stock goes back up.
So, when you’re weighing up your stocks, think about what lies behind the outperformance or underperformance of each one. Then ask yourself whether its current streak is likely to continue and what potential pitfalls or opportunities could lie ahead for it.
And if you decide to hold on to a company’s shares, consider using a stop-loss to protect your overall returns.
When you’re weighing up a particular trust or fund, take a look at its manager, its holdings, its strategy, and its longer-term performance.
Ideally, you should assess a fund’s performance relative to its benchmark and peers over a market cycle. However, focusing on three- to five-year returns could be sufficient to identify an issue.
A typical red flag is if a fund has lagged its peers at a time when the market environment was favorable for its particular strategy. For example, if a large-cap growth fund has underperformed when large-cap growth companies, as a whole, were doing well.
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