How Can I Create an Investment Portfolio? - Types of Investments and Choosing Stocks Using the Modern Portfolio Theory
Determine Your Investment Goals
When asking “How can I create an investment portfolio?”, one must make a concerted effort to establish certain goals.
First, a person must make sure they are in financial stability and have the assets to invest into the market without cost to other aspects of his or her well being. Building an investment portfolio is almost pointless if someone has outstanding debt such as credit cards.
Second, it is essential to make a determination of individual goals. How far away from retirement are you? How much money can you afford to place into investments? Generally, if a person is close to retirement, his or her investment portfolio should be more conservative as there is less time to recover from a major loss. Likewise, if a person is younger, they can weather the storm of the market over time and generally garner larger returns from making more risky investments. An overall determination of the individuals risk aversion is also necessary.
Learn About Different Types of Investments
There are literally countless investment options out there. This makes it necessary for anyone interested in establishing an investment portfolio to learn about the different types of assets and how they impact the mixture of investments. Different types of investments include stocks, bonds, warrants, futures, options, gold, silver, platinum, commodities and real estate.
Sometimes certain securities or derivatives have a stronger impact than others. For example, real estate throughout history has generally been a strong addition to one’s portfolio, however, there are sporadic fluctuations in the housing industry that causes massive drops in value. This can detrimentally impact your investments overall.
_Above left: B&O RR Common Stock. (Supplied by JGHowes at Wikimedia Commons; Public Domain; https://upload.wikimedia.org/wikipedia/commons/b/b5/B%26O_RR_common_stock.jp_g)
Investment Portfolio Strategies
How can I create an investment portfolio using proven strategies? The best way to determine what assets should be added to your portfolio is to understand the different methodologies that are used to build a proper mix of investments.
An equally-weighted portfolio uses the concept of placing the exact same amount of money into each type of security in which one invests. Basically, if you have $10,000 to invest, you can balance equally between stocks and bonds, by putting $5,000 in each.
Using the concept of a capitalization-weighted portfolio, the components of the mix are different, but weighted. Basically, the amount of stocks one has in the portfolio could be much larger than the bonds, however, the value of the bonds are financially equal or worth more than the stocks.
Price-weighted portfolio management uses the methodology of choosing stocks with a larger influence on the greater portfolio than others. All stocks are included, but some have a higher price than others, meaning they impact the overall portfolio with a greater weight than others when they fluctuate in price.
The most prevalent theory in establishing an investment portfolio, however, is the optimal portfolio method. This uses the general principles of the modern portfolio theory, in which investors add assets to the mix that offer the highest return possible, but the lowest risk. Using the risk-return spectrum, investors can find a good mix of assets that provide adequate gains while mitigating losses.
Seek Professional Investment Advice
How can I create an investment portfolio that is both sustainable and legitimate? The most important thing to remember about creating an investment portfolio is to seek out professional advice. Only experience portfolio managers are capable of giving you legitimate advice and help you determine the correct mix of assets that will best benefit you during your investment life. Attempting to create an investment portfolio yourself can be a risky venture. You may end up losing a large amount of money, which leaves you with no one to blame but yourself. Inversely, professionals that create portfolios for a living have experience that puts them in a better position to make good decisions.
Resources
“Modern Portfolio Theory” Moneychimp: https://www.moneychimp.com/articles/risk/riskintro.htm
“Creating an Investment Portfolio” 360 Financial Literacy: https://www.360financialliteracy.org/Life+Stages/Retirement/Articles/Investments/Creating+an+investment+portfolio.htm
This post is part of the series: Learning Investment and Portfolio Managment for Beginners
There are a number of theories regarding setting up a basic investment portfolio when you are first getting started in the market. Strategies such as modern portfolio theory or the single index model can help you choose the best stocks, bonds and derivatives to include in your portfolio.
