Article

How to Build an Investment Portfolio from Scratch

07 Aug 2019

An investment portfolio goes much beyond stocks. It is a combination of stocks, mutual funds, bonds and other assets like gold. Obviously, you cannot just pick up the pen and start filling up the application form for investments. There has to be a method to the madness. In fact, even before you start investing, you should go through some key steps and then starts the actual process of investing. These preparatory steps need to be taken care of to ensure that your core task of portfolio building does not get impacted.

Steps to building your investment portfolio

There are 8 critical steps you need to take to build your portfolio from scratch. Needless to say, it has to begin with your financial plan.

Step 1: Begin with your goals in mind. You want to retire rich, you want to send your daughter to an Ivy League university and you also want to ensure that you have money to pay for your home loan and car loan. All these have to be planned. Define your goals; assign monetary values to them and then work backwards to see how much you need to invest. It is all about being systematic.

Step 2: When you make your financial plan, you first need to take stock of your assets and liabilities. Once the goals are set out, the first step is to ensure that high cost loans are paid off. Personal loan at 18% or credit card outstanding at 35% can make a mess of the best investment portfolio plans. Start off by repaying these high cost loans.

Step 3: Get adequate insurance and don’t overpay for insurance. Your focus must be to cover risk, not make money out of insurance. That is what your investments will do. Apart from taking life cover you must also ensure that your family has adequate health insurance that takes care of any hospitalization needs. Above all, take insurance for your assets and your liabilities too. Ideally stick to pure risk plans and avoid endowments and ULIPs.

Step 4: Based on your asset mix, first focus on debt. Debt provides you stability and regular income. Any goals maturing in the next 3-4 years must be tagged to debt funds or FMPs. You cannot afford to take too much price risk in these cases, which is an assumption in your equity investment.

Step 5: Next you turn to all the important long term equity investments tagged to long term goals like retirement, child’s education, child’s marriage etc. The best option is to opt for diversified equity funds or multi-cap funds. Sectoral and thematic fund are best avoided. More importantly, adopt regular SIP plans. That will ensure discipline in investment as well as the benefits of rupee cost averaging towards wealth creation in the long run.

Step 6: Once your goals are taken care of, the next step is to look at any surplus for building a direct equity portfolio. This may not be a core aspect of your long term goals but they are essential to generate long term direct wealth. Focus on a handful of stocks having good prospects, ability to disrupt the industry and also the capacity to sustain growth and margins over a longer time frame. Take a perspective of at least 10 years on this portfolio and don’t forget to diversify your risk here.

Step 7: Keep some part of your money as margin facility for short term trading opportunities? They are for short term alpha and there is no reason for you to miss out on these opportunities. Here we are referring to churning your money in and out of the market using short term trades in equities. You must ideally look to trade with stop losses and clear profit targets since you need to protect your capital in these cases.

Step 8: Take this opportunity to build insurance into your equity portfolio. Futures and options can give protection and flexibility to your investments. The best of portfolios and the best investors are vulnerable to macro and micro changes. Have a plan to hedge your risk using put options or futures. These products can be used to either protect your portfolio value or to even play the market both ways.

Of course, these 8 steps are only limited to creating your investment portfolio. Then there is the monitoring of the portfolio and the rebalancing that is required from time to time, but that would be the subject of another discussion altogether.

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Beginner's Corner

How to Build an Investment Portfolio from Scratch

07 Aug 2019

An investment portfolio goes much beyond stocks. It is a combination of stocks, mutual funds, bonds and other assets like gold. Obviously, you cannot just pick up the pen and start filling up the application form for investments. There has to be a method to the madness. In fact, even before you start investing, you should go through some key steps and then starts the actual process of investing. These preparatory steps need to be taken care of to ensure that your core task of portfolio building does not get impacted.

Steps to building your investment portfolio

There are 8 critical steps you need to take to build your portfolio from scratch. Needless to say, it has to begin with your financial plan.

Step 1: Begin with your goals in mind. You want to retire rich, you want to send your daughter to an Ivy League university and you also want to ensure that you have money to pay for your home loan and car loan. All these have to be planned. Define your goals; assign monetary values to them and then work backwards to see how much you need to invest. It is all about being systematic.

Step 2: When you make your financial plan, you first need to take stock of your assets and liabilities. Once the goals are set out, the first step is to ensure that high cost loans are paid off. Personal loan at 18% or credit card outstanding at 35% can make a mess of the best investment portfolio plans. Start off by repaying these high cost loans.

Step 3: Get adequate insurance and don’t overpay for insurance. Your focus must be to cover risk, not make money out of insurance. That is what your investments will do. Apart from taking life cover you must also ensure that your family has adequate health insurance that takes care of any hospitalization needs. Above all, take insurance for your assets and your liabilities too. Ideally stick to pure risk plans and avoid endowments and ULIPs.

Step 4: Based on your asset mix, first focus on debt. Debt provides you stability and regular income. Any goals maturing in the next 3-4 years must be tagged to debt funds or FMPs. You cannot afford to take too much price risk in these cases, which is an assumption in your equity investment.

Step 5: Next you turn to all the important long term equity investments tagged to long term goals like retirement, child’s education, child’s marriage etc. The best option is to opt for diversified equity funds or multi-cap funds. Sectoral and thematic fund are best avoided. More importantly, adopt regular SIP plans. That will ensure discipline in investment as well as the benefits of rupee cost averaging towards wealth creation in the long run.

Step 6: Once your goals are taken care of, the next step is to look at any surplus for building a direct equity portfolio. This may not be a core aspect of your long term goals but they are essential to generate long term direct wealth. Focus on a handful of stocks having good prospects, ability to disrupt the industry and also the capacity to sustain growth and margins over a longer time frame. Take a perspective of at least 10 years on this portfolio and don’t forget to diversify your risk here.

Step 7: Keep some part of your money as margin facility for short term trading opportunities? They are for short term alpha and there is no reason for you to miss out on these opportunities. Here we are referring to churning your money in and out of the market using short term trades in equities. You must ideally look to trade with stop losses and clear profit targets since you need to protect your capital in these cases.

Step 8: Take this opportunity to build insurance into your equity portfolio. Futures and options can give protection and flexibility to your investments. The best of portfolios and the best investors are vulnerable to macro and micro changes. Have a plan to hedge your risk using put options or futures. These products can be used to either protect your portfolio value or to even play the market both ways.

Of course, these 8 steps are only limited to creating your investment portfolio. Then there is the monitoring of the portfolio and the rebalancing that is required from time to time, but that would be the subject of another discussion altogether.