Imagine having a steady stream of passive income that allows you to live your life exactly the way you want. This is a reality for many people who make smart investment decisions, particularly those involved in crypto trading.
Portfolio diversity is essential for getting the best results and minimizing risk, but not everyone understands how to go about it. Let’s explore the key information you should know about strategic risk management so you can maximize your returns and make safe investment decisions.
Spread the Wealth
One of the best ways to keep your portfolio diverse is by allocating money across a large number of investments. For example, people who invest in the stock market can choose a large number of stocks with low volatility.
It’s also recommended to allocate your wealth across different types of investments. Both index funds and bonds are great options for keeping your portfolio diverse. Not only can these provide great returns, they can help minimize your portfolio’s overall risk.
You don’t have to treat crypto as a single investment, either. There are countless types of tokens you can invest in.
Be sure to do your due diligence before allocating your money toward them, though. Not all tokens are worth your time. Bitcoin is one of the most stable and noteworthy.
Keep this information in mind when moving forward.
Expect the Unexpected
Understand that the market isn’t 100% predictable no matter what anyone tells you. There’s always a chance things will go awry. For example, a company scandal could generate substantial bad press.
This could cause the stock price to drop, compelling a large number of investors to sell. This behavior will further lower the value of the stock. For those who trade crypto, this is something you can’t overlook.
Consider Forex Options
You aren’t limited to domestic options when investing in the stock market. Many people overlook the opportunity that forex investments provide.
The foreign exchange market is a global, decentralized landscape for trading international currencies. Many people are surprised to find it’s the most liquid market in the world. One of the primary benefits of forex investing is you can access the market 24/7.
This process involves purchasing one currency and selling another type. Investors can trade currencies in pairs, such as trading the US dollar against the euro. Before you get started, it’s recommended to do extensive research on this type of investing.
Beginners often make mistakes that cause significant financial setbacks. When used appropriately, forex investing provides a large number of opportunities for traders of all types. This means swing traders, day traders, and long-term investors can utilize this market.
Importance of Diversification
The primary benefit of portfolio diversification is spreading the risk across a large number of investments. This helps soften the blow if some of them lose value. For instance, imagine if your entire portfolio consisted of Apple shares.
The company’s new product announcement at a tech event isn’t well received by its audience, causing the stock price to decline. Depending on how harsh the drop was, you could lose most of your investment overnight.
When you have a portfolio full of low-volatility investments, it’s likely to slowly grow over time. As the years go on, it will continue to build upon itself and increase in value exponentially.
Can You Over-Diversify a Portfolio?
Yes, it’s possible to over-diversify in some cases. If you stretch your finances too thin over many investments, you’ll hardly make any money. While your risk will be minimal, you likely won’t see noteworthy returns.
In general, it’s recommended to keep the total number of investments you purchase under 20. There’s a point of diminishing returns after this number.
To clarify, the difference between 20 types of investments and 500 is negligible. There’s no point in diversifying your portfolio to the point where you mitigate your returns.
How Is Portfolio Risk Measured?
There’s a handful of methods you can use to measure portfolio risk. These include standard deviation, error tracking, and drawdowns. Let’s explore these in detail below.
Standard Deviation
Most people remember this term from previous math courses. You can use this concept to determine market volatility while investing. When prices change significantly, the standard deviation is high.
This is because the new value deviates greatly from the initial value. You can calculate the standard deviation by subtracting the mean from each value in question. You then square, add, and average the differences to calculate the variance.
To calculate the mean, you add all values together and divide them by the total number of values. You can then subtract the mean from each value to determine its deviation from the mean. Afterward, you then square each deviation by multiplying it by itself.
Then, calculate the sum of all squares by adding them together. Next, you’ll need to calculate the variance. You can achieve this by dividing the sum of the squares by the total number of values minus one.
Finally, you can calculate the square root of the variance to produce the standard deviation. After you complete this process, you can use the standard deviation to assess overall risk.
Tracking Error
This is another method you can use to determine an investment’s volatility. It’s relatively straightforward as long as you’ve already calculated the standard deviation of an investment.
You can determine tracking error by calculating the difference between an investment’s returns and its benchmark. This helps determine a fund’s overall level of risk, allowing you to make better investment decisions.
Drawdowns
This term refers to a peak-to-trough decline during a specific period. It aims to calculate the historical risk of different investments. It can also compare fund performance.
Calculating a drawdown is simple. You simply divide the difference in stock price by the peak value of the stock multiplied by its trough. The answer is expressed as a percentage. For instance, let’s assume you were interested in purchasing shares of Google.
Over two weeks, the share’s value peaked at $160 and fell to $120. Dividing $40 by 160 x 120 would result in a 30% drawdown. It’s essential to keep in mind that you can’t measure a trough until a new peak forms.
Finding a Professional
Working with a professional is one of the best ways to ensure your investment is properly diversified. While it’s possible to handle this on your own, it’s not recommended unless you have experience. Listed below are some of the most notable attributes to consider when looking for a professional.
Reputation
What do other people have to say about working with them? A quick Google search can often tell you everything you need to know.
You’ll also gain valuable insight into what you can expect from them. Keep an eye out for how they respond to negative feedback. If they get defensive or aggressive toward criticism, it’s in your best interest to look elsewhere.
Look for fake reviews, as well. These are often easy to notice, as they contain similar keywords and formatting. They also tend to get posted in batches.
Expertise
Do they have plenty of experience in helping clients diversify their portfolios? This is a crucial detail to consider before moving forward. Look for professionals who have dealt with plenty of people like you in the past.
You can be sure they’ll understand the nuances of your situation. This equates to better results and lower overall risk. It’s best to find someone who has at least a decade of experience in the industry.
There’s a good chance they’ve handled countless portfolios like yours.
Enthusiasm
How enthusiastic do they seem about your project? If they aren’t interested in helping you reach your goals, they’ll fall short of your expectations. You can assess their enthusiasm by paying attention to how many questions they ask.
Financial professionals who genuinely care about meeting your needs will want to know as much as possible about your ambitions. If they don’t seem to care about your target performance levels, don’t be afraid to look elsewhere. It’s never recommended to settle.
Communicativeness
Never hire someone who isn’t easy to get in touch with. This can make any professional interaction highly unpleasant. Ask them how often you can expect to hear from them.
You should also establish the channels they’ll contact you through. Details like these can help you quickly narrow down your decision. The last thing you want is to choose a professional who leaves you in the dark.
This is a great time to assess how comfortable you feel with them, as well. Find someone you have no trouble speaking with.
Never Overlook Strategic Risk Management
Without strategic risk management, there’s a chance you’ll lose your gains as quickly as you make them. The tips in this guide will help ensure you make the decisions that give you peace of mind.
TrueCode Capital aims to help our clients understand the nuances of crypto investing. By working with us, you can navigate the process and achieve better results without making risky decisions. You’ll learn more about the benefits we offer when you get in touch with us today.
