Here are 6 tips for building wealth over the long term that I have learned over many years of managing money.
#1 Time is Money
There are no quick money making techniques. Accumulating wealth takes time, perseverance, and learning from your mistakes.
#2 Core vs. Non-Core
Portfolios of all risk levels should have core and noncore investments. The core portion consists of relatively low-risk investments with steady return. This should be the amount invested that you depend on and cannot lose in any significant amount. It may be the money you use to maintain your lifestyle or that you need to feel secure.
The non-core is the portion of your portfolio that provides the opportunity for growth and gives you funds for that vacation or boat that you dream about. Your noncore investments can contain speculative investments that have potential for larger gains but also larger losses. Align your financial goals with your portfolio- the percentage you allocate to core and non-core depends on your stage in life and risk-tolerance.
#3 Limit Your Losses
The key to building wealth is to limit your losses. Along the way, you will have periods of loss. Even the top fund managers have periods of losses. However, if you look at funds with the highest average annual return over the past 10 years, these are the funds with the smallest losses in any given year.
If you lose 50% of your portfolio, it will take a 100% profit to break even. How many investments do you know of that can double your money in a short time? Limiting your losses is especially critical for clients that are near or in retirement.
#4 Stop Losses on Stocks
One strategy to consider in helping mitigate the risk of large losses is stop losses. A stop loss is putting a sell order on a stock if it reaches a particular price or below it. For example, if you own one share of ABC stock for $50 and you put in stop loss order at $47, the stop loss will be triggered if the price falls to $47 or below. Which means, ABC stock will sell at the next available price. It’s important to realize that the downside risk is you may sell at a price below $47, especially if the stock falls sharply.
The advantage of a stop loss is it adds discipline and helps you make decisions about cutting losses. If your stock loss is triggered, it gives you the opportunity to reassess the economic and market environment and buy another stock that may have higher price appreciation potential because of a change in economic environment.
#5 Cash as an Asset Class
Cash has a role in investment portfolios. In 2008, every US and international stock index, as well as many bond benchmarks lost money. Today’s markets are global and interconnected. In an economic downturn all major asset classes can go down together. Therefore, going into cash is a viable alternative in major market downturns.
#6 Diversify Styles
Diversification can include more than investing globally and across asset classes. There should also be diversification in investment styles i.e. growth investing, value, income, deep value, etc. Each market cycle generally favors a certain type of investment style. For example, during the 1995 – 1999 period, technology and growth investing styles were in favor, while value styles lagged in returns. In a slow growing economy, a value or income based style may have better returns. Diversifying investment styles within your portfolio can decrease your risk in varying market conditions.
Disclosure: These are the opinions of AC Financial Advisory Group, LLC and not necessarily those of Cambridge, are for informational purposes only, and should not be construed or acted upon as individualized investment advice. Diversification and asset allocation strategies do not assure profit or protect against loss. Stop-loss orders without price limits will trigger as a market order once the stop price is met. The actual execution may significantly differ from the stop-loss price.