Are you an investor or a trader? If you’re a trader, looking to build your wealth through a long series of profitable short-term transactions, then knowing what the indicators are showing month-to-month can be critical to your success.
On the other hand, if you’re in the markets for the long haul and look to capture the benefits of long-term trends, indicators shouldn’t matter to you as much. Instead, you should focus on the tools that maximize your long-term rate of return while managing the risks you take to get it.
Tools for the Long-Term Investor
The following basic tools for long-term portfolio management minimize information overload while resting on some simple but effective concepts that could potentially boost returns while controlling risk:
Asset allocation. A long-term asset allocation strategy aims at determining an optimal mix of stocks, bonds, and cash equivalents in your portfolio to suit how much risk you’re willing to take for the potential rate of return you want and need to meet your objectives. The benefit of investing in all three asset classes is diversification — spreading investments among assets that have different cycles of return. To achieve further diversification, you can add real estate and commodities as two additional asset classes.
Portfolio rebalancing. This may be the most overlooked technique for potentially boosting returns and controlling risk. Perhaps that’s because it requires the investor to preplan an asset allocation strategy. Yet the technique is relatively simple: once a year (or some other predetermined time period), compare the percentage of your assets in each class to your strategy. Then sell some assets from the categories that are larger than your strategy calls for and use the proceeds to buy more of the assets that decreased in value. The principle is that rebalancing forces you to sell high and buy low.
Dollar cost averaging. This technique actually puts market downturns to work in your favor. The method is to invest a set amount of money on a recurring basis in each asset class. By continuing to make purchases when prices decline, you buy more shares than you do when prices are high. Keep in mind that dollar cost averaging neither guarantees a profit nor protects against loss in a prolonged declining market. Because dollar cost averaging involves continuous investment regardless of fluctuating price levels, investors should carefully consider their financial ability to continue investment through periods of low prices.
Between the strategies of trading actively and managing your portfolio strictly for the long term is a technique called tactical asset allocation. This involves moving significant chunks of your portfolio from one asset class to another, depending upon your reading of the changing prospects for risk and reward in each asset class.
Trading involves market timing, which in turn depends on reading market and economic indicators with precision. It can be thrilling, but it’s also very difficult to do well. Is watching the indicators for the right moment to move in a new direction the right approach for you? Perhaps it is, at least with some of your portfolio.
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This newsletter was prepared by Integrated Concepts Group, Inc. The opinions expressed in this newsletter are for general information only and are not intended to provide specific investment advice or recommendations for any individual. It is suggested that you consult your financial professional, attorney, or tax advisor with regard to your individual situation. The views expressed are those of the author and may not necessarily reflect those held by PlanMember Securities Corporation. Material presented is believed to be from a reliable sources and PSEC makes no representation as to it accuracy or completeness.
Using diversification/asset allocation as part of your investment strategy neither assures nor guarantees better performance and cannot protect against loss in declining markets.