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Introduction |
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In order to build a
successful portfolio you must make
sure that it is diversified. I
know your probably asking
yourself how do I
"diversify" my portfolio? Well to
diversify your portfolio you have
to combine different
investments, in different percentages,
to achieve your goal.
This diversification is called
asset allocation. However in order
to do this you have to know
what types of investments will
help you meet your goal. In
this section we will talk about what
you need to go through to decide
on what you want in your
portfolio. |
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How
long do you want to stay with
your investments? |
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Determining how long you want to
keep your money in your investment
is a large part of deciding
how to diversify your portfolio.
It has been shown that
stocks out perform cash, CD's
and some bonds in the long run.
If your plan is for long-term(spanning
a decade or so) then it is wise
to have the majority of
your portfolio in stocks. However,
if you're planning to invest for
the short term it is wise to put
your money in one of the previously
mentioned investments. This is
logical because you would be
looking for a less volatile
portfolio due to the amount of
time that you want to spend in
the market. |
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How
much money are you willing to
invest?
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| The
amount of money you are willing
to invest plays a large part in
what your portfolio looks like.
The basic scheme to this is that
the more money you have the more
options you will have, and the
more risky stocks you will be
able to invest in. To be able to
determine how much money you
will want to invest also depends
on how much risk you can
tolerate. Surpassing this risk
tolerance level may lead to bad
decision making and decline in
health. You must determine how
much you are able to risk
without feeling bad if you lose
it. For some who have a high net
value this may be a large amount
of money but for others this may
be a small amount of money.
Understanding yourself plays a
large part in understanding how
much you should invest. |
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Stock
Diversification |
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It is
possible to diversify your portfolio
with only stocks. Due to
the large numberof industries out
there it is possible to
add diversity to your portfolio. If
you invest in different sectors
of the market then
you will considerably reduce the risk
of losing your money. Let's look
at an example. Say that you
decided to invest in the bookmaking
industry and there is a strike
among the printers in the
industry. This may cause stocks in
the industry to plummet however
the other industries would not
be scathed. On the other hand the
effect may even become
an inverse relationship. This
might be because when the books
are being published less,
the electronics industry would go up
because of electronic books. In
the first case you would not be
losing too much money due to the fact
that the stocks in your
portfolio are diversified. In
the second case you might not
lose money due to the inverse
relationships experienced in
your portfolio. |
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Mutual
Fund Diversification |
| Investing
in
mutual funds is an easy way to
diversify your portfolio. Since
mutual funds allocate their
funds into different investments,
it makes it much easier
for investors. For different
goals it is possible to
adjust your mutual funds to fit
your different goals. For example, if
you are looking towards growth
it might be a good idea to have
a large portion of your mutual
fund be growth stocks and the
rest towards bonds and cash.
However if you do not want to
create your own mutual fund
there are plenty out there with
different percentages of stocks,
bonds and cash. Once you find
the right one for your purpose
invest in it. |
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Dollar
Cost Averaging |
| This
is the practice of investing the
same dollar amount over the same
intervals of time. This is a
practice commonly used when
investing in mutual funds. I
will explain why it is better
than most investing methods. In
this example we will be talking
about stocks.
Deals with Fluctuations of
Prices
The way that it works is that instead of
buying the same amount of
shares each interval you should
invest with the same amount
of money each interval. It
proves to be much more cost effective.
To realize this you would
have to find the average price
per share that you spent over
the past few months. Here is
how to figure it out(only on one
stock at a time)& .
Total Amount
Spent / Total Amount of Shares
Purchased =Price Per Share Paid
Here is a table to help you
understand further: |
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Date |
Price Per
Share |
Shares Bought |
Cost |
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1/1 |
$5 |
100 |
$500 |
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2/1 |
$8 |
100 |
$800 |
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3/1 |
$12 |
100 |
$1200 |
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4/1 |
$7 |
100 |
$700 |
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Totals: |
400 |
$3200 |
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Price Per
Share |
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$8.00 |
Constant Cost Amount(Dollar Cost
Averaging)
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Date |
Price Per
Share |
Shares Bought |
Cost |
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1/1 |
$5 |
160 |
$800 |
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2/1 |
$8 |
100 |
$800 |
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3/1 |
$12 |
66.666 |
$800 |
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4/1 |
$7 |
114.286 |
$800 |
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Totals: |
440.952 |
$3200 |
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Price Per
Share |
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$7.25 |
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