Some investors may feel anxious amid intensifying volatility. Such heightened emotions can drive them to make investment decisions at less optimal times. Are you familiar with these scenarios?
In short, Person A has failed to time the market, while Person B suffered investment losses because of high concentration risk. What investment strategies could we optimise to help us avoid making these mistakes?
Strategy 1: don’t time the market, invest regularly
Heightened emotions and biases can cloud our investment decisions. Some investors would participate actively in a market rally or over a popular investment scheme, and take drastic actions to unload their assets during a market sell-off.
Some investors may be prone to herd behaviour, and their emotion-driven actions could lead them to sell when the market bottoms, or buy during a peak. As a result, they could miss out on the profitable opportunities, or even suffer losses. Timing market trends is time-consuming and inefficient. Instead, investors can consider dollar-cost averaging - investing a fixed amount into a monthly fund investment plan. By doing so, they can lower the average cost.
With a fixed installment, investors would buy less in a market rally and more during a downturn. In the long run, this could mitigate short-term price volatilities. Investing equal amounts regularly can help reduce the average costs compared with a one-off, lump-sum investment.
Conclusion: Set up a long-term and regular investment plan to help generate optimal returns. Invest a fixed amount regularly instead of trying to time the market. Start investing early so that you can benefit from dollar-cost averaging over a longer investment period.
Strategy 2: diversify to mitigate concentration risk
Financial markets are constantly evolving, and there are no guarantees of any ‘winning’ stocks or assets. With changes in the economic structure, traditional businesses may be phased out and are replaced by new economy stocks.
Putting all your money into a single stock or sector heightens concentration risk as you can lose your entire capital should problems arise.
To mitigate concentration risk, diversification1 is key. Start by allocating the assets more optimally. Different asset classes have varying momentums. For example, high-quality bonds could show positive momentum in a stock market sell-off. When allocating the assets, consider different sectors or industries. Third is regional distribution: every industry and region have their distinct risk factors and potential linked to population, culture, political economy and geopolitics.
Conclusion: Consider diversifying across asset classes, industries or regions that are lowly or negatively correlated to help mitigate risk as well as tap the potential opportunities of different market scenarios.
Mutual funds comprise multiple investing styles, strategies and scopes. Their holdings could also cover dozens or even thousands of securities. Investors, instead of directly investing in certain stocks or bonds, could consider accessing a diversified range of global markets and tap the potential opportunities at a lower average cost.