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During my years in this industry, I have met countless investors who simply aim too high with their growth expectations and often refuse to invest according to the risk profile recommended for them.
Upon inception, they want to invest as aggressively as possible to achieve the best possible growth, until markets take a turn for the worse and they start to lose money.
With great sadness and shock, they then realise that they should have followed a more conservative risk profile, simply because they couldn’t afford to handle much market volatility to begin with.
When you invest, always remember that one of your main goals with any investment is that your capital should be able to buy as much (and more) tomorrow as it can buy today.
This growth rate is called inflation. To beat it, you need growth assets like shares in your portfolio over the long term.
But here’s the catch: in the short term they can be volatile.
Investors who aim too high without taking their risk appetite into consideration, may only after considerable losses realise that they may never again reach their required growth rate.
Prevention is better than cure and, luckily, there are quite a few ways to prevent this dilemma.
Diversification
How many times have you been told not to place all your eggs in one basket?
This is and probably always will be one of the best ways to protect your investment portfolio against big declines, especially if you diversify between different asset classes.
Let’s consider an investment in South African General Equity Unit Trusts (average) as an example over the last ten years.
If you had invested R100 in these funds on 15 May 2009, your investment would be worth R280.01 today. That equates to 180% growth.
But if you take a closer look, you’ll also find that – despite managing to outperform inflation quite comfortably – you also would’ve been a bit of a nervous wreck.
Not only would you have experienced strong negative movements in your portfolio over this period, but you also would have seen practically no growth in your portfolio over the last five years.
Over the same ten-year period, this investment had an annual volatility ratio of 10%.
This means that at any given time during this period, there was a chance of either earning 10% in returns, or losing 10% of your investment value over a one-year period.
During this ten-year period, the FTSE/JSE All Share Index also experienced a decline of more than 10% in one month.
If you had invested your capital according to a more moderate risk profile in South African Multi Asset High Equity Funds ten years ago, your R100 investment would be worth R245.33 (145% growth) today.
Of course, the returns aren’t quite as attractive as they would have been in a share portfolio, but at only 6.4% volatility and a maximum monthly decline of 7% in one month over this period, investors would have been able to enjoy 80% of the share portfolio’s returns at roughly 60% of the risk.
SA General Equity Unit Trust Funds vs. SA Multi Asset High Equity Funds
Source: Profile Data
Patience
There is no doubt that there will always be market fluctuations, but investors only lose if they sell.
Before you invest in a diversified portfolio, it is your responsibility to determine which investments will provide you with the highest returns at the lowest risk.
If you experience short-term price fluctuations, just be patient – achieving maximum returns takes time.
Use the right platform
A good platform through which to manage your investment portfolio, is by a linked product.
This is a single platform where a single account is issued to you.
You can invest your capital in various investments that are diversified across various asset classes.
One of the major benefits of this product, is that you don’t have to withdraw funds from one provider only to reinvest it again elsewhere.
You can simply switch from one investment to another on the same platform.
It’s important to note, however, that there are costs attached to this type of product and this should be taken into consideration when weighing up your options.
My message is simple: don’t fly too high. Set high goals, but not unrealistic goals.
It’s just not worth sacrificing a good night’s rest just because your investment expectations were aimed too high.
Schalk Louw is a portfolio manager at PSG Wealth.
