Smart, disciplined, and regular investment from an early age is the best way to allow your money to mature. The key to intelligent investing is diversification. A diversified portfolio minimises risks while investing for the long-term. It allows for a certain amount of high-return investments by offsetting possible risks through more stable alternatives.
When you start early, you can also learn the value of disciplined saving, and plan for your life goals. You can start with a mix of cash, stocks, bonds, or government securities. Once you develop confidence in your decisions and have sufficient capital, you can further diversify into areas like global markets and real estate. Here are the ways in which you can diversify your investments.
1. Learn why diversification is a must
A diversified portfolio helps your overall investments to absorb the shocks of any financial disruption, providing the best balance for your saving plan. But diversification is not limited to just the type of investment or classes of securities; it also extends within each class of security.
Invest in different industries, interest plans, and tenures. For instance, do not put all your investments in the pharmaceuticals sector, even if it among the best-performing sectors amid the Covid-19 pandemic. Diversify in other sectors that are picking up, such as education technology or information technology.
2. Asset allocation
Broadly speaking, there are two basic types of investment – stocks and bonds. While stocks are seen as high-risk with high returns, bonds are usually more stable with lower returns. To minimise your risk exposure, you should divide your money between these two options. The trick lies in balancing the two, in finding equilibrium between risk and surety.
Asset distribution is typically based on age and lifestyle. At a younger age, you can take a risk on your portfolio, opting for stocks that offer high returns.
A good way of allocation is to subtract your age from 100 – this should be the percentage of stocks in your portfolio. For example, a 30-year-old could keep 70% in stocks with 30% in bonds. On the other hand, a 60-year-old should reduce risk exposure, hence, the stock to bond allocation should be 40:60. However, you may have to factor in your family finances when taking these decisions.
If you share a high proportion of the family expenses, you should be more cautious about your investments. It would limit the amount of capital you have at your disposal, and therefore, you may want to play safe with a higher tilt towards bonds.
3. Assess the qualitative risks of the stock before investing
You can minimise the unpredictability of stock transactions by applying qualitative risk analysis before buying or selling a stock. A qualitative risk analysis assigns a pre-defined rating to score a project’s success. To apply the same principle, you have to evaluate the stock through specific parameters that indicate its stability or the potential to do well.
These parameters will include a robust business model, integrity of senior management, corporate governance, brand value, compliance with regulations, effective risk management practices, and the dependability of its product or services, coupled with its competitive advantage.
4. Invest in money market securities for cash
Money markets instruments include certificates of deposit (CDs), commercial papers (CPs), and treasury bills (T-bills). The biggest advantage of these securities is the ease of liquidation. The lower risk also makes it a safe investment.
Of all market securities, T-bills are the closest to risk-free securities that can be bought individually. They provide an ideal option for short-term investments that are guaranteed to be secure.
While g-secs are known for safety, they are not known for high returns. What makes a g-sec secure is its insulation from market fluctuations, but this also removes the likelihood of making a substantial gain as in the case of stocks. You can invest in g-secs if you want to park your money in a safe place for the short term. You can also use it as a part of your portfolio to offset against other ‘riskier’ investments, such as high-value, high-risk stocks.
5. Invest in bonds with systematic cash flows
Mutual funds are seen as a reliable and stable investing option. But within mutual funds there are numerous options for investment, interest accumulation, and redemption.
If you want to access your money even as it is locked in a savings plan, consider investing in mutual funds with systematic cash flow, also called a systematic withdrawal plan (SWP). Under these types of investment, you can withdraw a fixed amount monthly or quarterly. You can customise withdrawal, opting for a fixed amount or against profits.
A similar alternative is systematic transfer plan or STP where you can transfer a fixed amount between different mutual funds. STP helps to maintain a balance in your portfolio. In either case, the objective is to provide access to investments at fixed intervals.
6. Follow a buy-hold strategy
An investment plan is essentially your long-term saving plan. So, you have to start thinking long-term and avoid knee-jerk reactions. Think buy-hold instead of a constant trading strategy. It means keeping a relatively stable portfolio over time, irrespective of market fluctuations.
Unlike constant trading, it’s a more passive approach where you allow your investments to grow. That said, don’t be afraid to curtail holdings that have appreciated too quickly, or take up more of your investment portfolio than is required or prudent.
7. Understand factors that impact the financial markets
Before investing in financial markets, you need to first understand the factors that influence its movement. Financial markets include stock exchanges, foreign exchanges, bond markets, money markets, and the interbank markets. These are essentially a marketplace for financial instruments and, like any other market, they function on demand and supply.
Like any other market, there are also external factors like interest rates and inflation that influence its dynamics. The other major influence is the central bank, the FED and its monetary policies.
8. Learn about global markets
Global markets have the potential for high returns in a short time. These markets are usually characterised by an extremely fast-moving dynamic where an investor must also deal with multiple monetary regulations. As a young investor, it can take some time to learn its functioning, understand trends and fluctuations, and what drives these shifts. But it can be highly rewarding, especially when the American market is experiencing a sustained downturn.
You can start with an exchange-traded fund (ETF) or a mutual fund with a low-cost structure and ample liquidity. It will allow you to invest safely with a small amount of capital, giving you the perfect opportunity to observe and understand how the global market works.
9. Rebalance your portfolio periodically
Balance is important in life and in investment. It is important to periodically check your investment portfolio to check the balance of various assets. This review should be based on your goals and major life milestones along with an evaluation of where you started and how far you have come.
A financial advisor can help you review your investments vis-à-vis your lifestyle, while advising you on other available options. This exercise also makes you more disciplined about your investment, while keeping you aware of its yearly growth. These two factors will eventually help you make more informed decisions, while developing a finer insight into investments in the future.
10. Try a disciplined investment scheme like a systematic investment plan (SIP)
If you have a small amount that you want to invest over a given time rather than investing a huge amount at one time, a SIP is a good option. Under this method, you can invest a fixed amount in mutual funds at fixed intervals. It is ideal for those who do not have access to a large amount, but can afford to invest only a small sum each month.
11. Invest in life insurance
Few young adults in America think of investing in life insurance. It can be difficult to imagine death, as a youth, especially if you are not married or have other dependents. But the age-old advice of treating life insurance as an essential investment avenue holds true, especially when you are young owing to the low premium rates your insurance company is likely to offer you at a younger age.
Life insurance companies decide premiums according to age, and the younger you are, the lower your premiums. Life insurance may not benefit you now, but it will safeguard your loved ones when you are not there.
You can also earn on your life insurance by investing in unit linked insurance plans (ULIPs), which combine life insurance with market-linked investments. A portion of the investment amount goes towards the insurance premium, while the rest is invested in the market. This is a long-term plan, and an early start can help you invest for future milestones. Remember to compare different ULIPs before investing.
12. Be aware of your financial biases
When planning your investments, you should be aware of the prejudices and ideas that are likely to influence your decisions. We are often influenced by external factors, particularly risk aptitude, family attitude, luck, and cultural beliefs.
The risk aptitude refers to the level of risk you will be willing to take, which often depends on the family background and cultural attitudes. Young adults from well-off families are more likely to go for high-risk, high-return investments. On the other hand, those from a modest background are more likely to invest in safe portfolios. Family attitudes also influence our willingness to trust the ‘luck’ factor.
Another unique characteristic is the cultural influence that decides our investments. For instance, some communities prefer investing in gold, while some prefer investing in land.
* The Content is for informational purposes only, you should not construe any such information or other material as legal, tax, investment, financial, or other advice. Nothing contained on our Site constitutes a solicitation, recommendation, endorsement, or offer by De Angelis & Associates or any third party service provider to buy or sell any securities or other financial instruments in this or in any other jurisdiction in which such solicitation or offer would be unlawful under the securities laws of such jurisdiction. All Content on this site is information of a general nature and does not address the circumstances of any particular individual or entity. Article partially appeared on forbes.com Credit: Forbes, NYSE © De Angelis & Associates 2022. All Rights Reserved.