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Individual investors are interested in getting answers to questions like which stocks to buy, at what price and when to sell. But they do not realize that these are the least important questions. These are irrelevant when it comes to building long term wealth.
The single most important decision in portfolio strategy that influences long term returns is your asset allocation ratio. That is – how much of my income after expenses – i.e. savings – do I put in various types of assets across stocks, fixed income, real estate, gold and cash. This is broadly referred to as portfolio asset allocation in financial parlance.
It is the single most decision that simplifies a portfolio and impacts long term returns.
Simplifying Portfolio Strategy
For simplifying portfolio strategy, all the opinions and advice can be essentially reduced to a set of few simple steps revolving around asset allocation:
Decide your asset allocation based on your life circumstances
For an individual who does not intend to do investments full time (i.e. has a job or business for his regular income), an allocation of up to 60% in equity, 10% in gold and the remaining 30% in fixed income will likely be the optimal allocation. It may not give best returns. But it is likely to be something that is practically followed over the long term.
Select your core and peripheral assets within the allocation
For most individual investors, index funds or select actively managed mutual funds are the best vehicles for equity participation.
Review once a year, and Rebalance when asset allocation ratios go out of whack:
If equities have grown and now account for 70% of assets, shift 10% into others by selling. Similarly if cash/fixed income or gold value has increased, shift proportionately into equity.
Set up a system for this portfolio strategy
Both contributions and rebalancing, so that you do not have to take decisions frequently.
Keep increasing absolute amounts or relative asset allocation
As your income levels increase or decrease, life circumstances change or ability to take risk alters.
This can be a framework for deducing a simple investment portfolio strategy for most individual investors. Once this is set up, the investor is likely to realize how unimportant the question of which stock to buy and when to sell really is.