For beginners: the first step for portfolio management

What is Portfolio?

A portfolio is a type of file for collecting items. An artist has a portfolio of his or her work, designers their prototypes, and so forth. A portfolio in finance or investment has a similar purpose: a file to group fund counterparts or financial assets.

In a simpler language, it is a basket for your assets.

Just as you have multiple baskets in your home for grouping your housewares in different categories, you could have multiple financial portfolios, each serving its unique objective.

 

 

What is Portfolio Management?

Since you could have multiple portfolios for varying purposes, their management will also need to be aligned with their objectives. Management of a financial portfolio is the process of looking after the portfolio to make sure that it fulfills its purpose. The management process includes picking out the best assets, deciding how much to invest in each asset, and reviewing its performance and adjusting the composition. You can do it on your own, or leave it to the professionals.

 

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Depending on the purpose of your portfolio, you could pick either active or passive management. Active portfolios aim to beat the market and create excess returns. As that requires a lot of resources and effort on the manager’s part, the management cost is expensive.

 

Passive investment portfolio aims to meet a market benchmark. It is managed by a mechanical trading algorithm. The composition and asset weights are determined by a model. As such, relatively small effort is required from the manager, which brings the cost down.

 

3 key components of portfolio management

The three key components for effective portfolio management are as follows: asset allocation, diversification, and rebalancing.

 

1. Asset Allocation

Asset allocation is a strategy to spread risk by including multiple classes of assets into one’s portfolio to increase the risk tolerance. In other words, instead of only investing in stocks, adding bonds, cash, cryptocurrency, and gold would be an example of asset allocation.

You would do this because a given asset class reacts differently to a given financial event. For instance, when the interest rate decreases, stocks and bonds may show different patterns. Also, depending on their weight, your portfolio may reflect it accordingly.

 

If you prefer a higher return, your portfolio should place a greater weight on high risk/high return assets. However, if you are a passive investor who prefers low risks, your portfolio composition should reflect your desire and have greater weight on low risk/low return assets.

 

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2. Diversification

Diversification and asset allocation are similar in that they both aim to spread risks. While asset allocation refers to having multiple assets across the classes, diversification refers to spreading investment within a class.

For instance, Josh practices asset allocation and comprises his portfolio with 40% stocks, 30% bond, 20% cryptocurrency, and 10% cash. He then decided to diversify his crypto assets by spreading his investment as follows: 50% of BTC, 20% of ETH, 20% of EDN, and 10% of XRP.

If you want to build a stable portfolio, study the correlation between assets. When two assets have a small correlation, they show unrelated behavior to a market stressor. As such, you have greater likelihood of offsetting losses from one asset with the gains from the other. In the words of financial lingo, this is an effective way to spread the volatility to increase the stability of one’s portfolio.

 

3. Rebalancing

The core of portfolio management is knowing when to rebalance it.

For instance, an investor divided his money as follows: 50% of BTC, 20% of ETH, 20% of EDN, and 10% of XRP. Later the market shifted and the price of BTC went up. With that, the weight of each coin changed as follows: BTC 65%, ETH 15%, EDN 15%, and XRP 5%.Will you have their weight remain as is, or will you adjust a part or whole of your portfolio?

 

The process of adjusting asset weights to best target your portfolio objective is called rebalancing. When composing a portfolio, you first begin to set your risk tolerance. As the market moves, it will affect the level of risk. Going back to the example, the price increase of BTC will change its weight within the portfolio, thereby altering the overall risk level. Rebalancing is adjusting the composition to bring the risk back to the original level.

 

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3 Ways to Rebalancing

Rebalancing is typically done in the following three ways.

 

1. Transfer

Asset allocation may shift with the market change. If one asset exceeds its allocation, it clearly affects the allocation to other assets. To recalibrate the overall risk, you can shift money out from one that exceeds its allocation to one that falls below its allocation to re-establish the original weight distribution.

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Let’s suppose you set your asset allocation as 50:50 between asset A and B. One day, the price of A skyrocketed and effectively changed the weight proportion to 70:30. Transfer is moving a portion of money from A to B in such a way that they’d become 50:50 again.

2. Reinvest dividends :

If you have direct dividends and/or capital gain from an asset sector, you move that into another asset sector that falls below the target allocation.

3. Top off :

Add fresh money into an asset class that falls below its targeted percentage allocation.

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Best time to rebalance your portfolio

 

You can schedule your rebalancing by a set time frame or weight change. For instance, you could schedule your rebalance in every month, quarter, or year. Customarily speaking, one would perform rebalancing at least once a year. The weight change may prompt you to rebalance. For instance, you could rebalance when the weight of A is either increased or fallen by 10%. Of course, you can mix the two as well by following a chronological schedule and perform an additional rebalancing when needed.

When rebalancing, you need to take into accounts the fees and taxes involved in transactions. The more frequent you rebalance, the more you would pay in the process. Active management of funds often has greater managing expenses because they buy and sell more frequently than passive investors.

In addition to these regular rebalancing, you may need to perform one due to a personal life event. For example, events such as getting married, having a baby, retiring, being fired, getting divorced, or other serious occasions may change the portfolio’s objective. Therefore, rebalancing is an important part of tending to your portfolio to stay close to your objective.

 

 

Why don’t you analyze your portfolio for free now to better manage your crypto portfolio?

 

Yes, it is free.

Want to review the performance of your crypto portfolio using proven metrics from the traditional financial industry for free?

 

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References : 

“6 Life Events That Require Rebalancing Your Investments (by Kevin Mercadante)”, investor junkie, Oct 16, 2019, accessed Mar 16, 2020, https://investorjunkie.com/investing/life-events-require-investment-rebalancing.

“Asset Allocation and Diversification Explained”, Binance Academy, accessed Mar 17, 2020, https://www.binance.vision/economics/asset-allocation-and-diversification-explained.

“Portfolio Management (by Adam Hayes)”, Investopedia, Feb 27, 2020, accessed Mar 16, 2020, https://www.investopedia.com/terms/p/portfoliomanagement.asp.

“What Is a Portfolio? (by James Chen)”, Investopedia, Feb 27, 2020, accessed Mar 16, 2020, https://www.investopedia.com/terms/p/portfolio.asp.

“What Is Portfolio Management? (by Dayana Yochim & Alana Benson), nerdwallet, Mar 16, 2020, accessed Mar 17, 2020, https://www.nerdwallet.com/blog/investing/what-is-portfolio-management/.

“What Is Rebalancing? How to Update Your Portfolio (by Kevin Mercadante)”, investor junkie, Oct 16, 2019, accessed Mar 17, 2020, https://investorjunkie.com/asset-allocation/rebalancing-update-portfolio/.

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What is Portfolio?

A portfolio is a type of file for collecting items. An artist has a portfolio of his or her work, designers their prototypes, and so forth. A portfolio in finance or investment has a similar purpose: a file to group fund counterparts or financial assets.

In a simpler language, it is a basket for your assets.

 

Just as you have multiple baskets in your home for grouping your housewares in different categories, you could have multiple financial portfolios, each serving its unique objective.

 

What is Portfolio Management?

 

Since you could have multiple portfolios for varying purposes, their management will also need to be aligned with their objectives. Management of a financial portfolio is the process of looking after the portfolio to make sure that it fulfills its purpose. The management process includes picking out the best assets, deciding how much to invest in each asset, and reviewing its performance and adjusting the composition. You can do it on your own, or leave it to the professionals.

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