Asset allocation and being diversified
Diversification is a core technique for reducing risk. Holding a variety of investments can help lower the emotional impact of panic or fear if one of those investments gets into trouble. Over time, stocks are seen as offering the most potential for increasing in value. However, there’s a reason you read about stock markets shooting up or plunging down – stocks also have more risk. They are a common investment in Canada, but for most people, they are not the only asset class you’ll want to hold. In order to create a portfolio with stable returns, you’ll want to expose yourself to more than one asset class because you can’t predict which one will do best year-over-year. Many people also invest in bonds, which are typically less volatile but offer less potential for returns, or other assets such as cash, government bonds or money market instruments, which offer very little lower volatility alongside very little return.
While the mix of these different asset classes in your portfolio is called diversification, choosing an asset allocation that makes sense for your own financial situation including how old you are, what kind of returns you need (and when) and how much risk you can handle is important.
Your asset allocation strategy can vary from a portfolio full of startup stocks with big potential for growth to putting all your money in a high-interest savings account. (In that case, your investment growth may struggle to keep pace with the rate of inflation) The ideal asset allocation is probably somewhere between the above two extremes. A trained investment professional can help you align your personal financial goals with your investments. Having a sound investment plan will help you focus on the long-term despite short-term changes in the market.
Reviewing your investment plan regularly and sticking to it
Do you have an investment plan? If you do, great. That’s half the battle. The other half is remembering to review it, update it and most importantly, to stick to it.
Determining your asset allocation is only the beginning of a properly managed portfolio. Over time, a portfolio can become distorted, especially when equity components do better than fixed income-investments.