What Is an Investment Portfolio, and How To Build One?

An investment portfolio is a collection of stocks, indexes, exchange-traded funds (ETFs), bonds, commodities, cash, and cash equivalents and may include other alternative assets owned by an investor. When asked, people generally assume a portfolio is some variation of stocks, bonds, and cash. While this is often the case, a portfolio can also include alternative assets like real estate, art, and private investments.

A portfolio is an abstract way of referring to a group of investments. For example, one investor may refer to the assets they own in their 401(k) or ROTH IRA as their "retirement portfolio" while referring to the real estate they own as being part of their "real estate portfolio." Another investor may use the term "investment portfolio" to refer to all of their investments as a whole.

How To Manage an Investment Portfolio

If you're new to investing, the first consideration to make is whether you are going to manage your investment portfolio yourself, use a Robo-Advisor, or hire a professional to do it for you.

There are important considerations to make when managing a portfolio. Considering your risk tolerance, time horizon, and investment goals will help determine the blend and allocation of assets you should own and the kind of portfolio management you should implement.

It's easy to become distracted in the market. However, writing down clear definitions makes managing your portfolio considerably easier. If you find yourself losing sleep over your portfolio, you may consider reviewing your plan. You may find you need to reduce riskier positions to better align with your defined risk tolerance and asset allocations, or on the flip side, even take those chances to meet your goals.

Track Your Holdings

Part of a good portfolio management routine involves tracking your investments. You can track your investments using a spreadsheet or a portfolio tracker app like ours. Tracking your positions allows you to measure the performance of your portfolio. As the saying goes, "What gets tracked, gets managed."

By tracking your positions in a detailed manner, you gain the advantage of reviewing asset allocations, projecting future income from dividends, measuring growth month over month, and more to ensure you're staying on track to meet your goals.

Types Of Strategies, Portfolios, and Investors

There are almost as many portfolio types as there are investors. However, every portfolio generally falls into one of the following categories based on risk tolerances, goals, and the investor's age. Below are two popular investing styles and asset allocations.

Income Portfolio

An income portfolio is a blend of assets tailored towards producing regular passive income first instead of focusing purely on capital gains. An income portfolio is often more heavily weighted towards dividend stocks and fixed-income investments such as bonds. Investors who desire an income portfolio follow strategies such as Dividend Growth Investing (DGI). DGI investors tend to focus on high-quality companies that are likely to continue to grow their dividend payouts in the future.

Growth Portfolio

As the name suggests, a growth portfolio consists of a heavy allocation of investments speculated to grow significantly in value over time. Generally speaking, these investments are often in younger companies with more potential for growth than larger, well-established companies focused on maintaining relevance. Growth investors often implement some variation of a value investing strategy. Value investors focus their efforts on finding stocks they believe are undervalued based on the company's intrinsic value.

Aligning Your Portfolio With Your Risk Tolerance

Whether you're a growth or income investor, defining your risk tolerance is essential to your chance of success. Investment portfolios are typically rated as conservative, aggressive, or moderate. The blend of assets you invest in should align with your investing goals, timeline, and risk tolerance. It's not uncommon for an investor to start with an aggressive portfolio in their 20s and gradually move towards a more conservative portfolio as they approach retirement.

Conservative Portfolio

A conservative investment portfolio is typically made up of stocks from large, well-established blue-chip companies with a history of paying dividends and growing their earnings each year. These stocks are usually less volatile than smaller, younger companies and are deemed less risky for investors looking to protect their capital. Conservative investors may also choose to invest in bonds, which are loans paid back with interest, or in cash and cash equivalents, and are generally safer investments but typically boast lower returns. Conservative investors often use bonds, cash, or cash equivalents to stabilize their portfolios during rocky markets. Conservative portfolios are usually well diversified. Diversification helps investors reduce the risk of losing money if one of their investments performs poorly.

What are the benefits of a conservative investment portfolio?

Some benefits of a conservative investment portfolio include:

Protection of capital: Stocks from large, well-established companies are less volatile than stocks from smaller, younger companies and are therefore less risky for investors looking to protect their capital.
Diversification: By investing in various assets, conservative investors can reduce the risk of losing money if an investment performs poorly.
Low risk: Conservative investment portfolios typically have lower risk than aggressive ones.
Reduced volatility: Because of the increase in low-risk stocks, bonds, cash, and cash equivalents, the value of a conservative portfolio is more stable. During a down market, this means you typically have a lower drawdown. However, this also reduces the potential upside.

What are some risks of a conservative investment portfolio?

Some risks of a conservative investment portfolio include:

Limited growth potential : Stocks from large, well-established companies often have a lower potential for growth than stocks from smaller, younger companies, thus producing lower returns. Too conservative of a portfolio could hinder the growth of your portfolio.
Lack of exposure to new technologies : Conservative investors may miss out on potential new technologies' profits by investing only in stocks from large, well-established companies as it's usually the up-and-coming companies who generate excess returns. However, with tremendous rewards comes more significant risks too.
Reduced upside : Alongside reduced volatility comes reduced upside, meaning conservative portfolios tend to lag the market. Too conservative of a portfolio early on can have adverse effects on retirement. However, investors who reach a large enough portfolio often begin leaning towards preserving capital instead of growing it.

Aggressive Portfolio

An aggressive investment portfolio is typically made up of stocks from young, growing companies with a high potential for capital gains. These stocks are typically more volatile than stocks from large, well-established companies and are therefore riskier. Ultra-aggressive investors may avoid investing in bonds or holding cash. They may also limit the amount of diversification within their portfolio, focusing on a specific sector, industry, or asset type. However, investors can still diversify an aggressive portfolio alongside proper due diligence to limit risks while maximizing their potential for capital gains.

What are some benefits of an aggressive investment portfolio?

High potential for capital gains: Stocks from young, growing companies have a high potential for capital gains. Picking the right growth company can immensely boost a portfolio's performance.
Exposure to new technologies: Aggressive investors often follow sentiment and innovation. New technologies such as cryptocurrencies usually pique the interest of aggressive growth investors as they try to benefit from the hype and growth potential around the latest technology.

What are some risks of an aggressive investment portfolio?

High risk: Aggressive investment portfolios are typically riskier than conservative ones. They are often less diversified and more focused on an individual sector, industry, or particular stock. Ultra-aggressive investors often attempt to trade in and out of stocks based on social sentiment in the marketplace.
More Volatility: The stocks in an aggressive investment portfolio are generally more volatile than stocks in a conservative investment portfolio, leading to more significant losses or gains. If the investor can't stomach the fluctuations in their portfolio and they haven't done proper due diligence, it may cause the investor to close a position at an inopportune moment.
Lack of exposure: Aggressive investment portfolios typically have a higher concentration of stocks from young, growing companies, which may be riskier than investing in stocks from large blue-chip companies.

Portfolio Rebalancing and Asset Allocation

Asset allocation is the weighting each type of security has within your portfolio. Part of portfolio management includes rebalancing your portfolio periodically. Each investor must determine for themselves when the appropriate time to rebalance is. Some investors follow a rigid routine, rebalancing quarterly, annually, or as soon as a particular position reaches a predetermined threshold.

Portfolio rebalancing is the act of trimming positions that have outgrown their allocated weighting within your portfolio. These funds can then be redirected into new and underweight positions to bring your portfolio back into balance. For example, say you choose a blend of 60% stocks and 40% bonds, and a few of your stocks go to the moon, your portfolio's ratio of stocks to bonds could become significantly skewed, warranting an opportunity to rebalance.

It's important to remember that rebalancing may cause capital gains or losses, causing tax implications. Trimming positions should only take place after careful consideration. It never hurts to seek professional advice.

Diversification

It is generally considered good practice to have a diversified portfolio in the investing world. A diversified portfolio includes asset types from uncorrelated industries, limiting redundancy. Diversification helps investors reduce risks during volatile markets. For example, many restaurants and malls were shut down during the recent pandemic and struggled immensely to turn a profit while many technology companies thrived from it. Having investments in both industries may have smoothed the volatility investors experienced during that time.

One of the simplest, surefire ways to ensure a diversified portfolio and reduce risk is to include mutual funds or exchange-traded funds (ETFs), such as VTI or VOO, in your portfolio. Owning real estate, commodities, cryptocurrencies, cash equivalents, and artwork can add diversity to a stock portfolio.

Summary

A portfolio is an abstract term used by investors to refer to a collection of assets, usually stocks, bonds, and cash. However, it may also include alternative assets, like real estate, art, crypto, commodities, and private investments.

No two portfolios will look the same. An income investor's portfolio will look different than a growth investor's portfolio, and an aggressive income investor's portfolio will again look different than a conservative income investor.

Building an investment portfolio can take many years. Always keep your risk tolerance, timeline, and goals in mind as you make investment decisions. Precise definitions of these will help determine the type and aggressiveness of your portfolio.