The difficulty with managing our own investments is that we’re not trained to do so. It doesn’t matter how many books we read on the subject, nothing replaces a qualified professional who is trained in how to effectively manage investment portfolios for clients in a safe, sensible manner.
To give you some idea, below we will cover a couple of the risks with trying to manage your own portfolio and a brief discussion about how we should approach our own investments.
Sector Investing is Riskier Than One Thinks
We all get attracted to shiny objects. In many ways, investing in individual sectors like metals & mining or utilities through exchange-traded funds or mutual funds is the latest shiny object. We usually hear through our peer group that a particular category of stocks is doing well for them and the natural tendency is to jump in with both feet.
The problem with chasing after sectors is two-fold. Firstly, one usually only hears that a category is “hot” after it’s peaked and is ripe for big fall in value. Secondly, it’s all too easy to get invested in a sector that you later discover is no longer relevant (think: buggy whips at the turn of the last century when Ford Motors released their first Ford Model T automobile). The risk with sector investing is that you’ll end up owning an increasing amount of a shrinking market.
Lack of Proper Diversification
While big investors like Warren Buffett and Charlie Munger of Berkshire Hathaway often refer to diversification as “diworsification” because they believe it waters down long-term investment returns, for most investors, to diversify is to seek safety. In much the same way that Warren Buffett has previously advised investors through his Berkshire Hathaway Annual Report that index funds are recommended for “know nothing investors,” similarly, the best defense against owning too much of something is to own a little bit of everything.
A properly diversified portfolio includes a mix of asset classes. Typically, this may be some domestic and international stocks, bonds, and perhaps some real estate in the form of REITs as well. While the domestic equities might fall during the year, the foreign stocks might rise, bonds stay flat and the REITs rise modestly. The result that year would be a low, but acceptable return. However, when only owning domestic equity that year, the portfolio would have sustained a loss. Therefore, diversification is a way to get a “free lunch“ by mixing asset classes to lessen the volatility while increasing long-term returns at the same time.
Effective Portfolio Management
The purpose of having a trusted, fee-only financial advisor is to hire someone who’s on your side so they can manage your investments properly. The investment management provided delivers peace of mind from their balanced approach and investment reporting, to wealth protection. A good advisor will discuss with their new client what their goals and needs are, what cash flow is required from their portfolio, and confirm any other individual requirements before making any investment suggestions.
Managing investments is critically important for Americans who wish to build wealth over time and retain it for future generations. As more employees are faced with how to manage their 401(K) after leaving their current employer, understanding best practices when it comes to investment management is key to avoiding making costly mistakes.
Founder Dinis Guarda
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