Guidelines for Building a ‘Low Risk’ Investment Portfolio
Sometimes, the investment market is rock solid. That’s not the case coming into 2022, with increased volatility in December 2021 leading some analysts to predict the market could be headed for even more turbulence. Especially with the evolving status of COVID-19 and investor confidence.
And in market conditions like these, you could hardly be blamed for seeking safe investments.
Here are a few essential rules for building a low risk investment portfolio and a few ideas to help you get started.
Rule #1: Know What Low Risk Means to You
First and foremost, you have to know what low risk means to you. After all, what one investor may consider low risk may be far too risky for someone else. It’s all about your risk tolerance.
Risk tolerance is the degree of return variability an investor is comfortable with. Or, put another way, it’s the amount of loss you’re willing to tolerate in your portfolio. In investing, risk and reward often go hand in hand. An aggressive investor is willing to risk losing money if it means they might get a bigger payoff. A conservative investor is more concerned with preserving their original investment.
Most people fall somewhere between the two. However, if you’re looking to build a lower risk investment portfolio, you’re probably closer to the conservative side.
You should also take your goals into account. You could be investing for just about anything, whether it’s sending a child to college, saving for retirement, or even buying a house. But you should be crystal clear on what you’re investing for and what your timeline is. Remember, the closer you are to the date when you need the money, the safer you need to be.
Rule #2: Choose an Account That Suits You
Once you know what you’re trying to achieve and what your risk tolerance is, you can look into various types of investment accounts to find the right fit for your needs. Typically, these accounts are designed based on your investment goals. An IRA, for example, is an investment account designed for retirement savings, while a 529 plan is a college savings account.
You can select an account type based on two things:
- What you’re investing for
- How soon you need the money
What you’re investing for will automatically rule out certain investment accounts. You wouldn’t use a 401(k) to send your child to college. After that, it becomes a question of how soon you need access to your investment funds. If you need the money within the next five years, you’re probably better off with a high-yield savings account than an investment account.
Rule #3: Research Safe Investment Options
While there are several safe investment options, the right one depends on what you want the investment to do.
For example, if you’re looking for some growth over a period of a decade or more and are willing to tolerate a little risk, preferred dividends may be a good choice. These are dividends allocated and paid to a company’s preferred shares.
However, if you’re looking for upfront money with some interest and minimal risk, one of the safest options is a government bond. This is essentially an IOU to the government—you give the government a loan and it pays you back with interest (not much interest, but some).
Rule #4: Decide on Asset Allocation—and Diversify
Asset allocation is the process of spreading your portfolio among many different types of investments to mitigate risks attached to any one investment—and it’s one of the most important things you can do to build a low risk investment portfolio. If one of your investments doesn’t pan out, your portfolio won’t lose all its value.
Your asset allocation and how you diversify is highly personal. It considers anything from your age to your risk tolerance to your personality. If you lose sleep at night because an investment suffered short-term losses, that investment isn’t worth the stress and you’re better off shopping for a different investment asset.
Rule #5: Don’t Forget to Rebalance
Last but not least, don’t forget the second cardinal rule of disciplined investing: rebalancing.
Rebalancing your portfolio is when you realign the weightings of your portfolio assets to account for performance information and your goals. This should happen periodically to ensure that your investments are on track for what you hope to achieve.
Think of rebalancing as your portfolio checkup. Investing isn’t one-and-done—it’s a dynamic process, and you need to be aware of what’s happening in your portfolio. If an investment ends up being riskier than you thought or you’re not as happy with your asset allocation as you thought, you have to rebalance your portfolio to account for new information.
If you’re not sure how to rebalance your portfolio on your own, it can be extremely useful to consult with a financial planner.
A Safe Investment Portfolio Starts with Good Investments
Building a safe investment portfolio is all about finding the right investments and balancing the investments you have with options that level out your risk. And you have a lot of options beyond the stock market.
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