How to create a winning portfolio as an investor?
One of the most interesting questions that come to your mind while starting in the stock market is how to build a winning portfolio? It should produce high returns with low variations and risk. Usually, as an investor, you want returns that are slightly premium as compare to the traditional options such as banks and bonds. It is important to correctly mix all financial products holds the key to a portfolio that can ride through the market cycles. With this concept in mind, we try to present to you the various components of a winning portfolio. How can you get positive returns during different market cycles?
It is highly recommended that you should make a portfolio with a long term perspective. Studies have indicated that retail investors with a short term perspective having a higher portfolio, churn tend to underperform the broader markets. Hence you should focus on lower churn, a portfolio’s components must be arranged tactically. So, it can consistently provide returns to you without a significant drawdown. Hence we divide the whole portfolio into four components that can help you in allocating capital and diversify risk:
Bonds are an essential part of any sound portfolio. They provide the necessary fixed return and drive the risk of the portfolio considerably down. The prices of the bond are inversely related to interest rates. Hence if the interest rates fall, the price of bonds will go up, thereby it will reduce the yield on the bonds. As per the current low-interest-rate situation, bond prices are expected to go up. It makes bonds a valuable part of one’s winning portfolio. However, the yields on those instruments will likely be lower in the coming quarters.
While selecting the bonds, it is recommended that you should invest in quality bonds with higher credit ratings. Bonds are meant to create a safety net in the portfolio. Hence, a conservative investing approach is recommended with a stable expected return in line with the yield expected from bank FD’s. Depending on your risk profile and growth aspirations, you can allocate 10-20% in bonds.
In our previous article, we had discussed the importance of investing in gold and the favourable returns that were provided by it in the last two decades. This makes gold an almost essential part of any portfolio. Although there will be no cash inflows from physical gold. Modern instruments like sovereign bonds provide an additional coupon rate on the return of gold. It will give you absolute returns over a longer time frame. At any point in history, an investment in gold has given returns to the holder.
Due to this viewpoint, we highly recommend that out of your investment income, you should allocate almost 10% every month on gold. The recent bull run in gold prices is a testimony of the fact that gold will continue to generate returns for holders consistently. Based on the risk framework and time frame of an individual, allocating almost 20-30% towards gold is a smart choice for you. It will act as a natural hedge against crisis period, preventing significant drawdowns in your portfolio.
Now, you are slowly moving towards the most rewarding instrument of your winning portfolio, i.e., allocation towards the equity aspect. Equities are associated with volatility and high returns. Yet there is undisputed evidence that equities as an asset class have outperformed all the other asset classes in the past 50 years. As a retail investor, one of the safest ways for you to invest is via index funds, which track a particular index like Nifty 50 or the Nasdaq.
These funds have low management fees and provide returns instead of the index they are following. You can buy a particular portion of the index fund and reap high profits from the stock index without paying any management fees. A lot of companies like HDFC AMC and other asset management companies provide funds that closely track the index. An allocation of 15-20% is recommended for you.
Direct investment in equities is a lucrative way to make returns in your portfolio. If you want to make direct equity as a source of investment you must follow the philosophy of “consistent compounding.” This philosophy is a low-risk strategy in which you can scan the stock universe for companies that are generating Returns on Capital Employed (ROCE) well above their cost of capital and post-double-digit revenue growth from past 7-8 years. You can buy such companies for a considerable period to get a 15-20% CAGR for your investments.
You can also make money in direct equities by betting on the market leaders in a particular segment. As the market mature in a developing economy, there is a consolidation in the whole industry as the market leaders gain market share due to their superior reach. Well, positioning of balance sheets to riding through the crisis, thus elevating their bottom line and market value. This strategy ensures that as an investor you can grow capital consistently at low risk creating massive value in the portfolio. Due to highly varying risk measures, you are free to choose the amount of money to be allocated to direct equity.
Here are some of the tips to get started with your portfolio:
- Always invest the money that you don’t need. Make sure you have an ample reserve for your yearly expenditures so that you are not tempted to cash in on your portfolio.
- Bet on Consumption stories. In India, betting on consumption is one of the easiest ways to make money. Consumption is bound to increase due to the growing population and rising income levels. Look for companies that sell products of necessity to millions of Indians. Over a more extended period, these are the companies that will make money.
- NEVER have leverage in your portfolio. Markets are volatile, and sudden dramatic swings can create unfavourable situations in case you are leveraged. Thus, making you lose what could be multi-bagger investments.
- Give time to your portfolio. Make sure you spend some time during the week analyzing it to look for profitable opportunities. Also, allow your investments to mature over periods to benefit from compounding.
Now you are ready to begin your portfolio. With these tips, I do not doubt that you will be able to generate wealth and create multi-bagger investments consistently.