Are You Overcomplicating Your Portfolio Construction?

Building a robust portfolio requires a holistic approach, as discussed in a recent episode of the podcast "Do More With Your Money". Let's explore some key insights from that episode, specifically focusing on common investor mistakes and how to avoid them.

The Simplicity of Portfolio Construction

One common mistake is overcomplicating portfolio construction. Many investors get caught up in the details of specific investments and asset classes. However, the allocation between stocks, bonds, and cash is the primary determinant of expected return. Real estate can be considered, but primary residences are typically excluded. Rental properties can be factored in for exposure to the real estate market.

Understanding Asset Classes

Understanding asset classes is crucial. Stocks, bonds, and cash have different characteristics and move differently when combined. Bonds are generally seen as less risky due to their repayment schedule and priority over ownership. However, there is still interest rate risk associated with owning bonds. When constructing a portfolio, it's important to consider historical market drawdowns and potential outcomes. This helps provide perspective and informs your risk appetite and capacity.

The Importance of Cash Reserves

Having an appropriate cash reserve is also important for financial planning. It's advisable to keep investment accounts fully invested and maintain a separate cash reserve for living expenses. This ensures peace of mind during volatile market periods.

Discipline and Time: Key Factors in Investing

Discipline and time are key factors in investing. Investor behavior and sticking to an investment strategy greatly impact returns. Avoid overcomplicating portfolio construction by focusing on individual securities, unless there is extreme conviction. Limit their percentage in the portfolio to a comfortable level. Speculation in individual stocks, cryptocurrency, and equity compensation should be approached cautiously, with a predetermined maximum percentage of the portfolio.

Instead, concentrate on diversified assets and determine the percentage of stocks, bonds, and cash in the portfolio. Consider a high-yield savings account equivalent to cover several months of living expenses. This prevents the need to sell investments during volatile periods, avoiding being at the mercy of the market.

Staying Invested During Market Downturns

Staying invested during market downturns is crucial. Historical performance shows that even in positive years, there are multiple 10% drawdowns. Trying to time the market by getting in and out can lead to missing out on days that generate the majority of returns. A buy-and-hold approach, supported by discipline and an investment policy statement, tends to yield better long-term outcomes.

In conclusion, focus on high-level factors such as the allocation between stocks, bonds, and cash, your risk appetite, and maintaining discipline in your investment strategy. Remember, investing is a marathon, not a sprint, and success lies in patience, discipline, and a well-constructed portfolio.