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Ready
to Invest? Find the Right Amount of Risk First
When
the markets are volatile, many investors consider moving into safer
investments. The thinking is that, when conditions in the markets improve,
they will move back into stocks. But it's important to understand that
this strategy — natural enough given the market's ups and downs —
comes with its own risks.
Trying
to time the markets is a risky proposition. If you sit around waiting for
the best time to reinvest, chances are that you may miss the boat and end
up on the sidelines while the market climbs.
A
better strategy is to build a diversified portfolio, take a long-term
view, and maintain your discipline. To find out how, click through the
links below:
Each
of the three main classes of investments — cash, fixed-income, and
equity-based — has a role to play in a diversified portfolio. Each also
comes with its own brand of risk.
Cash-type
investments, which are the most secure, include Guaranteed Investment
Certificates (GICs), money market funds, and high-interest savings
accounts. Fixed-income investments include bonds, mortgages, and
longer-term GICs. Equity investments, which are the most volatile, include
stocks and stock mutual funds.
Cash-type
investments provide security and liquidity. If you were to build your
entire portfolio around these types of investments, you would experience
no financial-market risk. But your portfolio would be vulnerable to
inflation — the risk that the cost of living will outpace your savings.
To put this in terms most of us are familiar with, consider what you paid
for a college or university education, and think of what it would cost you
today.
Tip:
Cash investments are good for short-term savings goals and building an
emergency fund. Holding some cash can also help the enterprising investor
take advantage of opportunities following market declines.
Fixed-income
investments add stability to your portfolio. When stocks are experiencing
turbulence, bond markets often benefit. With their ability to help
preserve capital and provide a fixed rate of return, most investors
benefit from including bonds or bond funds in their portfolios. But these
investments also come with risk — most notably, that interest rates may
rise. In this case, you would be left holding a security or securities
that pay less than the going market rate.
Equity-based
investments provide growth potential. Fluctuating stock markets may grab
the headlines — particularly when the moves are down — but the fact
remains that equities are your best bet for growth over the longer term.
Historically, equities have provided the best investment returns.
By
taking on some additional risk in the short term, you increase your
chances for success over the longer term. What's more, the longer you hold
your equity investments, the less risk you will face over time. This
knowledge can help you put the market headlines in perspective.
The
comfort zone
Most
of us could benefit from holding a mix of the major asset classes in our
portfolios. This is the idea behind diversification — one of the
cornerstones of sound investing. If the equity portion of your portfolio
is declining, cash and bonds may be taking up the slack. The precise mix
that's right for you will depend on your goals, time horizon, and
tolerance for risk.
Did
you know... Most financial institutions and financial planners have tools
that can help you determine an asset allocation mix that's right for your
personal goals.
You
should not only assess your comfort level with stock-market volatility,
but also revisit it now and again. For instance, if market volatility
makes you nervous — a good test is whether it keeps you up at night —
chances are that you may benefit from a more conservative asset allocation
(more cash and bonds).
The
best strategy, as always, is to build a diversified portfolio of sound
investments, based on a plan that reflects your goals and comfort level.
For most of us, it's long-term success that counts, not guessing which
sector or stock will be the next big thing. A disciplined strategy can
help put the odds of investment success in your favour.
[Source:
Scotiabank My Vault]
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