How to create an Investment Portfolio PART 2 ( DIVERSIFYING & REBALANCING)

How to create an Investment Portfolio

Part 2 Diversification and Rebalance

In case you missed the first part of this post, you can read it here :

Part 1. How to create an Investment Portfolio (ASSET ALLOCATION)

After identifying your Asset Allocation, the next step is to DIVERSIFY.

Step 2. DIVERSIFICATION

Diversification enables you to reduce the risks of your investment portfolio without sacrificing your potential returns. This is done through investing in different types of asset to reduce your risk. Once your portfolio has been diversified, you are now able to take on additional risk to earn a higher potential return on your portfolio.

Why should you not put all your money in one investment option?

If you put all your money in one investment and it performs poorly, then it can wipe out all your hard earned money and you may lose it all.

If you place it in several investments and one goes down in value, the other investments can compensate the losses of the poor-performing one and can still leave you with a positive balance.

As mentioned in Part 1, there are 2 options on how to create your ASSET ALLOCATION PLAN. Once you’ve decided on how to allocate your assets, you may now diversify.

Using option no. 1 from Part 1 which is using the 100 age formula, supposing you have P100,000 and can allocate 70% to high risk investments. Perhaps you can segregate the P70,000 by placing P30,000 In the stock market, P20,000 in a UITF Equity Fund and P20,000 in Forex trading.

One factor you can use in Diversifying your assets is by determining your Time horizon.

How long would you like to your money to be placed in an investment option?

Your investment time horizon can be divided into short term, medium term and long term.

When you combine the factors Risk and Time Horizon, categorize the assets you would like to buy. You may come up with something below:

Low risk investments

*Short term-Time Deposits

*Medium Term- UITFs and Mutual Funds (Money Market Funds, Bond Funds)

*Long term- Retail Treasury Bonds

Medium Risk investments

*Short term- Multi-level marketing business

*Medium term- UITFs and Mutual Funds (Balanced Funds, Index Funds)

*Long term- Medium scale business

High risk Investments

*Short term- Forex Trading

*Medium Term- UITFs and Mutual Funds (Equity Funds)

*Long term- Stock Market Investing

Once you’ve done this, you’ll have a better view of how you can diversify, not just through determining the level of risks you can tolerate but by determining your investment horizon as well.

With that, you can plan your short term, middle term and long term goals. You can come up with something like this:

Step 3. Rebalancing

After doing proper asset allocation and diversification, your next step in making sure that your investments are optimized to your needs is to rebalance your portfolio.

REBALANCING simply means restoring a portfolio to its original makeup by buying and selling investments to ensure that they are still aligned with your financial goals. It’s a simple concept, but sometimes complicated in practice.

Seriously, not a lot of people bother to do it or even take the time to learn what portfolio rebalancing is, and I have been guilty of this before.

Why does Rebalancing matter?

Rebalancing allows the investor to prevent his or her portfolio from becoming too risky or too conservative.

How do you rebalance your portfolio?

There are three steps to rebalancing:

1. Review your ideal asset allocation

– Go back to Step 1 and review your mix of assets in your Asset Allocation.

Imagine you are 20 years old. Using the 100 age formula, you have a target portfolio of 80% stocks and 20% UITF invested in Money Market Funds.

2. Determine your portfolio’s current allocation.

-Once you know your ideal asset allocation, it’s time to figure out where your investments currently stand.

With the example above, after a year, you’ve found that your investment in your UITF has grown. So now they make up 30% of your overall investment portfolio.

3. Buy and sell shares to rebalance your portfolio to its original plan.

-Continuing the example above, since you’re still young and have a higher risk tolerance, you’ll want to continue investing more in stocks. That’s why you should rebalance your portfolio to go back to your original plan.

Since your UITF has grown to 30%, you can redeem a part of your UITF and invest more in the stock market, hence making it 80-20 like what you have initially planned in your asset allocation from the start.

How often do you need to rebalance your investment portfolio?

As experts have advised, once per year is a sufficient frequency for rebalancing your investment portfolio.

Final words

Once again, personal finance is a personal endeavor. Everything written in Part 1 & 2 are just suggestions based on experience and personal knowledge.

As long as an investment is not losing money, then my advise is to just let it run its course and grow.

I hope you found my two part-series on how to create an investment portfolio a big help. This is how I manage my own finances and I hope you were able to pick up a few tips from it.

Go back to Part 1. How to create an Investment Portfolio (ASSET ALLOCATION)

-The Thrifty Pinay

Disclaimer: The investing tips in this blog do NOT constitute as professional financial advice. These are based on experience and personal knowledge. Consult with a certified adviser to address your specific financial concerns.