‘5 things to do before building a stock portfolio’ is the latest in the series of articles in ‘Share market basics for new investors’. This series is written to explain the basic fundamentals of the share market. In these articles, we talk about the “street smart” knowledge investors need to be successful.
In this article, we will talk about what a new investor should do before starting to actually build a stock portfolio.
This is the time to think and plan. It is very critical to ensure that you think through this process. This thinking will determine whether you build the stock portfolio or not. This is independent of the performance of your portfolio.
Duration – you may have a certain objective in mind to create a stock portfolio, or you may not. But it is very important to understand how long you wish to stay invested, regardless of market performance. The amount of risk you can take will depend on the duration you intend to stay invested. It will define how much risk you CAN take.
- If you investment horizon is 5 years, you should invest in low risk products.
- If your investment horizon is 10 years, you should invest in medium risk products.
- If your investment horizon is 10+ years, you should invest in at least a few high risk products.
Risk Averseness – Will you lose your sleep knowing you could lose 5% of your portfolio? 10%?, 15%? Be honest with yourself; this is your portfolio. If you are not comfortable with the idea of losing money, accept the fact that you should invest in a lower risk product, and that it will earn lower than the potential it may have. Keep in mind that that there will be volatility in the market. Some days you may find your investments losing money, other days, you will see them making a profit.
For the retail investor, the key is to be able to deal with this fluctuation in valuation. If you can deal with this fluctuation, you will be able to make the right investment decisions. Otherwise, stock investing is not for you.
Amount Available for Investment – How much money do you have available to invest? If it is less than Rs. 10,000, you may not have too many options. You will not be able to diversify much in equity, and hence may have to invest in a mutual fund. If you have between Rs. 10,000 and Rs. 1,00,000, you should be able to build a reasonable portfolio of stocks over time. If you have more than Rs. 1,00,000 to invest, you should be able to invest in equities in small, medium and large cap companies. Investing strategy will also depend on the funds available to invest.
Regularity of investment – Is this a one-time investment? How often will you be able to add to the portfolio? Are you a salaried person, with a regular amount available to invest every month? Are you in sales where you get a bonus 1-2 times a year, and that is when you will be able to invest? Are you a businessman such that you will have investable surplus regularly, but will not know how much? This will also have an impact on how you invest.
Assess the current stock portfolio – Do you already own stocks and mutual funds? How is your current portfolio performing? Do you have to preen your current portfolio? Is your current portfolio heavy in a particular company or a sector? Is there a need to invest in certain areas to rebalance your current portfolio? These decisions should drive your future investments.
In my book, ‘Stock Picking Made Easy’, you will find a simple strategy to identify great companies at reasonable valuations in the Indian Stock Exchange. Identifying great companies at the right time is the key to long term wealth creation.