Building a balanced portfolio: Focus on diversification rather than market predictions

Do you need tips for building a balanced portfolio? If so, this article is aimed at you

Building a balanced portfolio can include a mix of growth and value stocks, big and small stocks, and so on. But most important, it should be balanced across most if not all of the five economic sectors.

What constitutes a well-balanced portfolio depends in part on your investment objectives and financial circumstances. Here are some tips:

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Building a balanced portfolio using our five sectors

Here are some tips on diversifying your stock portfolio:

  • When it comes to a diversified stock portfolio, stocks in the Resources and Manufacturing & Industry sectors in general expose you to above-average share price volatility.
  • Stocks in the Utilities and Canadian Finance sectors entail below-average volatility.
  • Consumer stocks fall in the middle, between volatile Resources and Manufacturing companies, and the more stable Canadian Finance and Utilities companies.

Most investors should have investments in most, if not all, of these five sectors. The proper proportions for you depend on your temperament and circumstances.

Conservative or income-seeking investors may want to emphasize utilities and Canadian banks for their high and generally secure dividends.

More aggressive investors might want to increase their portfolio weightings in Resources or Manufacturing stocks. For example, more aggressive investors could consider holding as much as, say, 25% to 30% of their portfolios in Resources. However, you’ll want to spread your Resource holdings out among oil and gas, metals and other resources stocks for diversification within the sector, and for exposure to a number of commodities.

Building a balanced portfolio: Buy good stocks, rather than trying to pick market tops and bottoms

In hindsight, it always seems easy to spot market tops and market bottoms. But trying to spot those tops and bottoms as they occur is harder. We have investigated all sorts of market theories and signals that purport to tell you how to do it. They all seem to have “worked,” at least some of the time. But none worked consistently.

The problem is that market tops and market bottoms can take place in response to anything that is going on in the market, the economy and the world. But buy and sell signals focus on a tiny smidgen of that vast amount of data. A market signal “works” when the market is responding to the same slice of data that the signal focuses on. It quits working as soon as the market’s focus moves on to something else.

Investors who succeed over decades—the Warren Buffett’s of the investment world—rarely, if ever, talk about spotting market tops and bottoms. They are far more likely to talk about successful investments than successful market predictions. Most have come to see, often after a period of costly stock-trading errors, that you make most of your stock-market profits through stock selection rather than stock-market predictions.

As an aside, some investors have asked: Why do we not sell stocks that shoot up quickly, and then buy them back in a month or two when the market is lower? There are several reasons: for one, the market may not go down. For another, when the market is headed for a rise after a dip, the best performers in that rise will often begin rising much earlier, and much quicker, than the market averages.

Building a balanced portfolio: 40 stocks is a good upper limit

When you get above $200,000 or so, you can gradually increase the number of stocks you hold. When your portfolio reaches the $500,000 to $1-million range, 25 to 30 stocks is a good number to aim for.

Of course, you may fall a few stocks below that range, or go a few above it, particularly when you’re making changes to your holdings. That won’t matter if you follow our three-part prescription of mainly investing in well-established companies; spreading your money across most if not all of the five main economic sectors; and downplaying stocks that are in the broker/media limelight.

Our upper limit for any portfolio is around 40 stocks. Any more than that, and even your best choices will have little impact on your personal wealth.

What kinds of investing mistakes have you made that have led to an imbalance in your portfolio? What did you do to remedy this issue?


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