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Back to basics: how to build an investment portfolio

Darius McDermott
Written By:
Darius McDermott
Posted:
Updated:
04/11/2013

If you decide to take the do-it-yourself investment route, here is a guide to how your portfolio might look.

I’m often asked what a DIY investor’s fund portfolio should look like. This is a very difficult question to answer, as the truth is that it’s really quite subjective.

Everyone has different goals, different attitudes to risk and preferences for one sector/region or another.

I do have a couple of tips I can share though, to point those choosing to go it alone in the right direction.

Assuming most people already have a goal in mind, thinking about your own personal risk tolerance before you invest is the first step. The key is to ask yourself the right questions – ‘how much can I afford to lose?’ is a good one!

Once you have an honest idea of your own risk tolerance, you then need to consider the level of risk associated with the asset class(es) in which you want to invest.

Translating your own idea of risk into a collection of investments isn’t always easy however, so most ready-made portfolios tend to cater for three general groups of investors: cautious, balanced and aggressive.

Most people will more or less fit into one of these categories. For example, those who have a lower tolerance to risk, perhaps an investor close to retirement, might prefer to take a more ‘cautious’ stance with their investments.

Those more comfortable with short-term losses and who are happy to invest for a long period of time might consider themselves more ‘aggressive’.

Some suggestions for these three groups of investors are shown below.

Obviously we are all individuals and won’t fit exactly into such a wide category, but these templates can be used as a starting point, and tweaked to meet your own personal preferences.

cautious-diy

 

balanced-diy

aggressive-diy

Having decided on your asset allocation, deciding on which funds to populate your portfolio is the next step.

Now, diversification in any type of portfolio is important – you don’t want to get burnt by having all your eggs in one basket, or rely on just one stock or fund to do the work for you.

At the other extreme, it’s important not to over diversify either though. Spreading your risk across too many funds can also be a mistake, as it means that while no one investment will have a big impact on your portfolio if it performs badly, neither will a strongly-performing fund have much influence.

As a rough guide, I’d suggest no more than 10 funds for a portfolio of up to £30,000 and 15-20 funds for portfolios over £100,000.

There are thousands of funds to choose from, so if you find such a big choice too daunting, there is help at hand. A number of companies either risk-rate funds themselves, or will do the fund research for you, and narrow the list down to those they consider best of breed.

Once your portfolio is constructed, it’s time to schedule in some review dates. While I wouldn’t advocate constantly monitoring or changing your investments on a daily basis, reviewing them once or twice a year is very important.

Your goals and your attitude to risk may change and your portfolio should be amended to reflect this. Furthermore, as certain asset classes out/underperform weightings can change considerably over time.

Darius McDermott is managing director of Chelsea Financial Services