As the saying goes, opportunities come to those who are prepared. For investors, what does it mean to be well prepared? The following five steps to investment can help you recognize your needs, choose the asset allocation combination that suits you, and move towards your investment goals step by step.
l Assess risk tolerance
l Diversify investment
l Invest according to asset allocation
l Assess investment performance
l Re-adjust investment portfolio
Step 1: Assess risk tolerance
On the road of investment and financial management, it is very important to take the first step correctly. The first of the five steps is to assess your personal risk tolerance and choose the asset allocation that suits your needs.
On the road of investment, everyone has different attitudes. Some investors are not willing to bear risks and investment losses, and they are not moved even if there is an opportunity to obtain higher potential returns; some investors are willing to take a certain degree of risk to obtain a certain investment return, but hope to avoid large fluctuations; and some investors are willing to take higher risks in exchange for returns above the market average.
How to know your risk tolerance? You can first judge by the investment period. Simply put, the longer the investment period, the higher the risk you can bear. The reason is that the longer the investment period, the more likely it is to survive the entire market cycle and avoid being dragged by short-term fluctuations. For example, young people who have just entered the workplace and are still far from retirement age can bear higher risks.
On the contrary, the shorter the investment period, the lower the risk you can bear. Suppose you will enter retirement next year and no longer have a stable income. If your investment suddenly plummets, you will not have enough time to recover your losses, so your risk tolerance is lower.
In addition, investment risk tolerance is also related to different life plans. Before investing, you might as well ask yourself whether you need to prepare for your children's education expenses? Do you have a plan to buy a house in the short term? These factors will affect our liquidity needs. After all, in any situation, we need to keep a certain amount of cash in case of emergency.
Step 2: Diversify your investments
If there is an investment tool in the world that has been among the best in the long run, investors can sleep soundly as long as they hold it for a long time. Isn't it perfect? But the fact is that economic cycles have ups and downs, and market conditions are unpredictable. Even investment experts find it difficult to accurately predict the performance of various asset classes.
Referring to historical data, the performance of different assets can be very different in different investment cycles. For example, the best performing asset in 2017 was almost the last in 2018, proving that no single asset can be a long-term winner.
Therefore, investors should avoid putting all their eggs in the same basket. Properly allocating assets to investment tools with different attributes in different regions will help diversify portfolio risks and capture investment opportunities in different market conditions to strive for stable medium- and long-term returns.
To fully utilize the advantages of risk diversification, the assets included in the investment portfolio must be able to complement each other's strengths and weaknesses. Even in the face of the same macro situation, there will be different reactions. For example, adverse factors in the market may cause a sharp drop in one asset, but the impact on another asset may be negligible. In the investment world, they are called low-correlated assets. By allocating asset classes with low correlation, investors can more effectively balance the risk and return of the portfolio.
Step 3: Investing based on asset allocation
Once you understand your investment goals, you can allocate funds to different asset classes according to your risk tolerance to build a complete investment portfolio. Simply put, asset allocation is to put stocks, bonds and other investment tools into a basket, but different types of investment tools have different risk and return characteristics, so asset allocation is never a simple task.
Generally speaking, the higher the return potential of an asset class, the higher the potential risk
Step 4: Evaluate investment performance
A well-thought-out investment portfolio can generally help investors gradually move towards their financial goals according to the set risk level. However, market conditions change over time, and macroeconomic and financial events can widely affect the investment market. Changes in the basic factors of various industries will also have different degrees of impact on various asset classes in the portfolio.
For example, central banks in various regions will adjust monetary policies in response to economic conditions. When interest rates change, different assets such as stocks, bonds, foreign currencies, and real estate prices will be affected differently. When the economic environment and market conditions change, assets that were expected to perform well before are likely to lag behind the market later, and vice versa.
Therefore, as market conditions change or time passes, it is very important to regularly review your investment plan and evaluate the performance of your portfolio. For example, if a client invests through a fund, in addition to reviewing the absolute performance of the fund, he or she should also understand the fund's performance relative to the benchmark indicator and how it compares with similar funds.
Just like a physical examination, only by conducting regular assessments can we know whether the investment portfolio is healthy and capable of achieving the expected performance.
Step 5: Re-adjusting the investment portfolio
On the road of investment, many people know the importance of asset allocation. However, it is equally important to maintain the structure of the portfolio continuously, but investors often ignore this point, resulting in the inability of the investment portfolio to achieve long-term goals.
As the market changes, the proportion of assets in the portfolio will change due to price fluctuations. For example, in a bull market, the price of the stock fund in the portfolio will increase, increasing its book value. If the prices of other configurations in the portfolio remain stable or fall during the period, the proportion of stock funds in the overall portfolio will increase, changing the overall risk level of the investment portfolio and beginning to deviate from the original tolerance of investors.
If this continues, the proportion of each asset class may increase or decrease, weakening the balance of the portfolio and affecting its ability to achieve long-term goals.
Therefore, regularly restoring the proportion of each asset class in the portfolio to the original proportion is also the key to the success of long-term investment. When reorganizing the portfolio, it may be necessary to sell some of the assets that have appreciated, or sell a certain proportion of the portfolio, and buy additional assets that have depreciated. As long as the portfolio proportion is adjusted regularly, the risk level and investment goals can be re-aligned to move towards financial goals.
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