Smart, disciplined and consistent investing from an early age is the best way to grow your wealth. Smart investing is done by diversifying your portfolio, which minimizes the risk of your investments over the long term.
Diversification can be achieved by incorporating certain high risk, high return investments into a portfolio that also contains stable low risk and low return investments. More stable investments are less responsive to market volatility and therefore offset the risks associated with more volatile high risk investments.
As you continue to invest, you begin to realize the importance of disciplined savings and the value it creates over a period of time. Investments can be a mix of cash, stocks, bonds, or G-sec (government securities). Once you have gained enough diversification experience, you can even go into international markets and invest in real estate.
Here are some tips that will help you diversify your portfolio:
1. Understand why diversification is essential:
The purpose of diversification is to absorb financial shocks caused by disruptions to overall economic growth. It balances your portfolio through multi-sector or multi-asset class investments and offers plenty of options even within each security class.
Wise investing involves parking money in different industries across sectors, taking advantage of interest plans and various tenure arrangements. For example, not all of your hard-earned money should be invested just in banks or only in IT, although the industry may be doing well during the COVID-19 pandemic. Put your money in the upcoming sectors that are experiencing a robust growth rate.
2. Asset allocation:
Basic investing mainly covers two asset classes: stocks and bonds. Stocks are considered high risk, high return investments, while bonds are more stable with low risk and low returns. Your risk exposure is minimized by dividing your investments between these two asset classes.
Asset allocation is primarily associated with age and risk appetite. Young people can bear higher levels of risk and therefore prefer to park their money in stocks that offer faster returns. A quick tip – subtract your age from 100 and use that as a percentage of your money that should be invested in equity. For example, at 30%, 70% of your money should be invested in stocks and 30% in bonds.
3. Evaluate the qualitative risks of the asset class before investing:
You can delve deeper into the quality of stocks by looking at various parameters that are not of a technical nature. A stock may be rated based on its performance history, management integrity, corporate governance practices, CSR initiatives, brand value, adherence to standards, reliability of the product / service offer and the competitive advantage it has over its peers. These factors can help you decide whether the values of the organization are aligned with yours and subsequently whether you should invest in them or not.
4. Money market securities can help you liquidate faster:
Instruments in the money markets include certificates of deposit (CD), treasury bills (treasury bills) and commercial papers (CP). This asset class offers the advantage of faster cash conversion. They are also low risk securities and therefore constitute a safe investment.
Of the 3 securities above, Treasury bills are the least volatile and therefore almost risk free. They can be purchased individually and are issued by the Reserve Bank of India (RBI). Backed by the central government, these are some of the safest investment options available. All G-sec are known for their safety and not for their rate of return due to their isolation from market volatility. G-sec are a great way to offset the risks associated with investing in stocks.
5. Invest in bonds that offer reliable cash flow:
Mutual funds (MF) are generally considered reliable and stable investment options. Nonetheless, within MFs there are various other investment options depending on your needs, such as investing, redeeming, and accruing interest.
Your money can be untouchable when it’s stuck in a savings plan. To alleviate this problem, consider putting money into MFs with constant cash flow, also known as systematic withdrawal plans (SWPs). This investment offers periodic withdrawal on a quarterly or monthly basis.
Systematic Transfer Plans (STP) are another option in which a fixed amount can be mixed between different mutual funds. These add balance to your portfolio.
6. Use a buy-hold strategy:
An investment plan is a long-term savings plan, which means avoiding knee-jerk reactions. This means that the focus is not on stock trading, but on a buy and hold strategy. Stocks generate good returns over a long period of time, allowing your wealth to grow. Unlike intraday trading which takes advantage of market volatility to make gains, this is a more passive approach and also a much safer way to ensure gains. Do not hesitate to give up a part of your holdings which appreciates too quickly because a market correction usually follows such rapid increases. Continue to average your costs by buying at a discount with the benefits you reserve.
7. Research the factors that influence financial markets:
Financial markets are a mixture of stock exchanges, bond markets, foreign exchanges, money markets and interbank markets. As in any other market, supply and demand also govern these markets. External factors such as policy changes, economic performance and interest rates announced by the RBI, etc. are all on the list of factors that could tip these markets one way or the other. A thorough understanding is therefore important.
8. Try systematic investment plans (SIPs):
If financial constraints are plaguing you, there is no need to worry. A small amount invested in a SIP is better than a large amount invested in the same. This method ensures that you invest a fixed amount of money in MFs at fixed time intervals. It works great for investors who cannot access large sums at once.
Diversification is essential even in SIPs. Make sure your investments are well distributed.
In India, people’s relationship with money is quite conservative due to high inflation rates and stagnant incomes. The only way to grow wealth is to invest in security. To achieve this, diversification is essential to protect hard-earned money from erosion in value. An early start coupled with consistency and wise investments can stabilize you financially over time.
The author, Rachit Chawla, is CEO and Founder of Finway FSC. Opinions expressed are personal