Investment Portfolio Construction
Posted: November 22nd, 2008 | Author: Mo2 | Filed under: Investing, Mutual Funds, Retirement, Stocks | Tags: Finance, Investing, Portfolio Construction, saving |Your Risk Tolerance
First question is, what kind of investor are you? Are you risk-tolerant? Can you emotionally sustain a 50% draw down of your account? If not, you probably want to stay on the safe side of investing focusing your investments on income.
Risk is a relative term. To some, risk involves losing money they originally invested. To others, risk can mean they venture out to invest in options or futures. And to others, reading this page might be a risk. Who knows, but we all have a different idea as to what risk is.
Income Stability
It is said that the stability of income has a lot to do with an individual’s risk tolerance. This isn’t about how much you make, it’s about how consistent your income is. So if you know what your money gross income is and you can set out a proper budget everything (possible link) then you know how much you can set aside and risk for your investments.
Mo2 Thinks
What I suggest you do is just think of what you could bare to happen to you. The worst-case scenario. Take a look at your monthly paycheque. How much of that can you seriously afford to lose? If you can’t lose anything, stick to safer investments like money market funds, treasury bills, and GICs. If you’re willing to lose a bit but want it to grow consistently then look at fixed-income investments, blue-chip equities with decent dividends, safer mutual funds, and preferred stocks. If you’re willing to take on a decent amount of risk then you can venture out to equities and even riskier investments like currencies, options and futures.
Asset Allocation is very important in how your portfolio does. It is said to determine upwards of 80% of your return. Take a look at the Asset Allocation article (link) that I wrote to get a better idea of what to do with your money.
Set Goals
What exactly do you want to achieve with your portfolio? Do you want a nice stream of income that would compliment your current salary? Do you want to risk more and try and hit a seven-digit portfolio? Or do you want your portfolio to pay off all your expenses on a consistent basis so that you won’t need to work anymore?
Whatever your goal is, it has to be realistic and you have to think of a timeline for it. Starting out with $10,000 and trying to turn that into $1 million in 10 years is pretty unrealistic, unless you add significant amounts on a regular basis to and take on a more aggressive portfolio. You should think about how much you will need for the goal that you are setting.
For example, if you’re thinking of retiring in say 15 years. They say that retirement requires roughly 70-75% of your pre-retirement income to maintain your standard of living. So if you’re making $40,000 annually, you’re looking at $28,000 to $30,000 in annual income from your portfolio. Now again, depending on your risk level your annual return will vary. But say you’re looking a conservative 6% return from your portfolio. To earn $28,000 to $30,000 you need $466,666.67 to $500,000 in your portfolio.
If you’re initial investment is $10,000 and you have 15 years to achieve this goal you’re looking at roughly $1512.72 - $1,626.76 in monthly contributions to realize the $466,666.67 to $500,000 in a portfolio. Of course you need to consider tax and inflation as you will be taxed yearly and your purchasing power will decrease over time.
Be realistic about your goals and strive to reach them before it’s too late to start, remember time is on your side if you have positive cash flow, compounding is the key to success over the long-term.
Nice post u have here
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