What Is an Investment Portfolio and How Do I Create One?

Components of a portfolio

Diversification is key to successful investing. A well-diversified portfolio typically includes a mix of stocks, bonds, and alternative investments, each working in balance to manage risks and achieve the investment goals you set.

Types of investment portfolios

There are various types of investment portfolios, each of them serving different purposes and focusing on different financial aspects. There are two main strategies: aggressive and defensive. An aggressive strategy aims to maximize returns by taking higher risks, often by investing in assets with strong growth potential. An investor adopting this strategy might favor long-term assets like stocks or speculative assets. A defensive strategy focuses on saving money and ensuring stable returns, with a lower emphasis on high growth. Someone who prefers this course might avoid highly volatile assets and seek to protect themselves against market downturns. Of course, there is a full range of strategies that blend elements of both approaches.

The hybrid portfolio approach

A perfect example of balance, a hybrid portfolio is a mix of assets for a person aiming at growth, income, and stability. The hybrid approach combines elements of both aggressive and defensive strategies. It includes equities that provide growth potential, and allocates to bonds, cash, or other low-risk assets to ensure consistent income. For example, it can consist of 50% equities (stocks from diverse sectors or index funds), 30% bonds (government or corporate), and 20% cash equivalents or alternative investments like real estate. It is an optimal decision if you seek balance between risk and return and are ready to invest in medium- to long-term assets.

Aggressive equities portfolio

If you are more of an “all in” person and concentrate on growing your profit, you might want to invest in high-growth stocks that provide high returns. However, get ready to face significant volatility and risks. An aggressive equities portfolio may include tech, biotech, or other innovative sectors’ stocks with minimal or no allocation to bonds or defensive assets. It can look like this: 90% growth-oriented equities and 10% speculative assets (for example, cryptocurrencies).

Defensive equities portfolio

Conservative investors often choose to build a defensive equities portfolio, consisting of low-volatility stocks, stocks with a history of consistent dividend growth and bonds for additional safety. Its aim is to minimize the risks. A defensive equities portfolio might include 60% equities (blue-chip or dividend-paying stocks), 30% bonds, and 10% cash or equivalents — a mix ensuring stability and consistent returns.

Income-focused equities portfolio

An income-focused equities portfolio is designed to generate steady income, primarily through dividend-paying stocks and other income-producing investments. This strategy is suitable for investors who prioritize dependable returns over capital appreciation, often during retirement when income from investment needs to replace earned income. This is the main difference between aggressive equities and income-focused equities portfolios: in the latter case, the investor is looking for regular cash flow rather than capital growth.

An income-focused equities portfolio typically includes dividend stocks, REITs, and preferred shares with an emphasis on high dividend yields and low capital appreciation. It may also include some fixed-income securities for diversification.

Speculative equities portfolio

A speculative equities portfolio can offer you high returns — it includes equities with potential for exponential growth — but you should be aware that it is very risky.

As it focuses on higher returns, the diversification is minimal. This type of portfolio can consist of small-cap stocks, startups, IPOs, cryptocurrencies, and emerging market stocks.

You can compare different types of portfolios using the table below.

Time horizon and portfolio allocation

The time horizon is the time an investor plans to hold an investment for before withdrawing their money. It is a critical factor in deciding on an investment strategy because the level of risk an investor can take and the types of assets they should consider depend on it.

• A short-term horizon is typically less than 3 years. It is good for low-risk investments like cash, money market funds, or short-term bonds.

• A medium-term horizon is around 3 to 10 years. You might consider a mix of moderate-risk investments, such as balanced mutual funds or corporate bonds.

• A long-term horizon is 10 years or more. It allows stocks or real estate (higher-risk investments), because there is more time to recover from market fluctuations.

Risk tolerance and portfolio strategy

How risk tolerant are you? Your approach to risk management directly influences the choice of portfolio strategy.

Risk tolerance and risk capacity are not the same, but they definitely affect each other.

Also the investment horizon is important — longer timeframes usually give an investor more time to recover from market downturns and imply greater risk tolerance.

Conservative risk tolerance

Conservative investors prefer safer investments like bonds or savings accounts. They usually avoid significant risk and prioritize capital preservation: they often choose certificates of deposit, bonds and more liquid investment vehicles.

Moderate risk tolerance

A moderate investor is willing to take on some risk for better returns but still prefers a balanced approach between growth and safety: a 60/40 or 50/50 portfolio structure usually works. A 60/40 structure may include 60% of stocks and 40% of bonds or 30% of bonds and the rest in cash or cash equivalents.

Aggressive risk tolerance

Aggressive investors are comfortable with substantial risk for potentially higher returns and often invest heavily in equities or high-growth assets. There can be very few or no bonds in the portfolio.

How to determine your level of risk tolerance

The first step here is to determine your goals. What are you saving for? What time horizon is best for your goals?

How to build an investment portfolio

Investing is a crucial step toward achieving financial security and growing your wealth over time. Building an investment portfolio that will suit your needs and risk tolerance is essential for long-term success, not just profit here and now. Whether you’re new to investing or looking to refine your strategy, following a structured approach can make the process easier and more effective. Here is a simple five-step guide on how to create an individual investment portfolio.

Decide how much help you want

The first step in building an investment portfolio is to decide how much guidance you need or want. There is a range of options — from managing your investments completely on your own, to seeking professional advice. Remember, there is always a combination of both.

• DIY investing is good for someone confident in their knowledge. You can do it through an online brokerage account. On the one hand, you can directly manage your investments and deal with lower fees, but on the other hand, it requires time and effort to research the market and monitor your portfolio.

• Financial advisors or even robo-advisors can help if you’re feeling a little lost in the sea of investing. Professional managers offer personalized advice, while robo-advisors use algorithms to create and manage portfolios based on your goals and risk tolerance. Of course, these services come with fees, but they can help out beginners or those with complex financial situations.

Choose an account that works toward your goals

Your investment goals are the main thing you should consider while building your portfolio. Different accounts are suitable for different purposes:

• Retirement accounts like 401(k)s or IRAs (roth or traditional) provide tax advantages for long-term retirement savings. Contributions may be tax-deductible or grow tax-free — this depends on the account type.

• Education accounts are perfect for education-related goals, and accounts like 529 plans in the US offer tax benefits.

• Taxable brokerage accounts are a good option if you want more flexibility in terms of withdrawals and contributions. These accounts don’t have contribution limits, but they unfortunately lack tax advantages.

Choose your investments based on your risk tolerance

The next step is to select assets that align with your risk tolerance. How comfortable are you with fluctuations in the value of your assets?

• Stocks are powerful investments: they offer high potential but come with greater risks. They are ideal for long-term goals, but be ready for some short-term volatility.

• Bonds are good if you prefer lower-risk investments and prioritize stable income through interest payments. Bonds also work as a stabilizing element in a portfolio.

• Because they are a mix of assets by default, mutual funds and ETFs provide instant diversification. Index funds and ETFs are widely popular for their relatively low fees and broad market exposure.

• Options like real estate, commodities, or cryptocurrencies are called alternative investments. These can add diversity but often come with higher risks. Make sure you have the knowledge and experience needed to invest in them.

Determine the best asset allocation for you

Again, the specific mix of assets in your portfolio depends on the aforementioned factors: your risk tolerance, goals and investment horizon. However, remember that these decisions are nor carved in stone — review your portfolio regularly and adjust it to your needs.

Asset allocation involves diversifying your investments across different asset categories, usually including stocks, bonds, and cash or money market instruments. This strategy helps balance risk and returns.

Within these main categories, there are several groups:

• Large-, mid and small-cap stocks — shares from companies with a market capitalization exceeding $10 billion, between $2 and $10 billion and below $2 billion respectively. Small-cap stocks often carry higher risk due to lower liquidity.

• International securities — investments in companies headquartered and traded outside your home country.

• Emerging markets — securities from companies in developing countries. While these offer high growth potential, they come with significant risks, including country-specific and liquidity risks.

• Fixed-income securities — corporate or government bonds with a fixed interest payout, either periodically or at maturity, along with the return of the principal. These are less risky and less volatile than stocks.

• Money market instruments — short-term debt investments, such as treasury bills (T-bills), whose maturity date is a year or less.

• REITs (real estate investment trusts) — investments in a portfolio of properties or mortgages, providing exposure to the real estate market.

The point of allocation is to meet the expected returns while minimizing risks. The graph below shows the potential risk and returns for some of the listed assets.

Rebalance your investment portfolio as needed

Building your portfolio isn’t a set-it-and-forget-it task. It requires regular maintenance, because over time market fluctuations can shift your asset allocation away from your original plan. For example, if stocks perform well, they may represent a larger percentage of your portfolio than intended, which increases your risk.

Rebalancing involves adjusting your investments to restore your target allocation. To do this:

• Sell over-performing assets and reinvest the money in under-performing ones.

• Add new contributions to asset classes that are not represented enough to diversify the portfolio.

• Reassess your allocation if your financial situation or goals change.

Review your portfolio at least once a year or after major life events such as marriage, the birth of a child, or a job change. And remember — investing is a marathon, not a sprint.

9 common portfolio management mistakes to avoid

Managing an investment portfolio is demanding — it requires careful planning, discipline, and awareness of potential pitfalls. So what are the most common portfolio management mistakes to avoid?

1. If someone starts investing without any particular purpose and plan in mind, they risk their money. The lack of planning leads to an unfocused strategy. A tip: if you are not sure how to come up with a reliable plan, seek advice from a professional.

2. The portfolio is not diversified or not diversified enough. Do not concentrate your investments in a single asset class, sector, or region — for example, do not put all your money in tech stocks, however promising the sector might seem. It is never a good idea to put all your eggs in one basket, as a market downturn in one area can lead to huge losses. A tip: diversify across asset classes (stocks, bonds, real estate), as well as across sectors (technology, healthcare, etc.), and geographies (domestic and international markets).

3. Another issue is overdiversification. Yes, it can be a problem too. Diversification is crucial for risk management, but how much is too much? Don’t spread your money too thinly over the assets: it can lower your potential returns. A tip: choose a reasonable number of securities that you can track and manage.

4. It may be tempting to capitalize on short-term price movements, but it can also lead to overtrading. Frequent buying and selling increases transaction costs like brokerage fees or taxes and makes it harder to achieve long-term returns because your portfolio is constantly changing. A tip: limit trades to match strategic rebalancing or changing financial goals, and avoid speculative trading if you do not have sufficient experience and resources.

5. Some people let their emotions affect their investment choices. You probably know these examples — they range from panic-selling during market downturns to becoming emotionally attached to an asset for any reason. A tip: stick to your well thought-out investment plan and buy and sell coolheaded.

6. Even seasoned investors often struggle timing the market, so don’t try to do the same. A hunch can be on point once in a while, but there are more chances of losing than of predicting the market changes correctly. A tip: rely on analysis and professional advice.

7. Lack of monitoring is another mistake many people make. Investing in an asset and not checking on it afterwards can cost you money. The market is changing all the time, so your investments demand continuous monitoring. A tip: oversee your investments frequently. This way, your portfolio will be balanced and aligned with your financial goals.

8. Low-return high-liquid assets like cash and cash equivalents are pretty safe, but they may not keep up with inflation, so investing too much in them can lower the purchasing power of your money over time. A tip: allocate to assets with growth potential like equities to outpace inflation.

9. Another problem some investors face is overlooking tax implications. Capital gains taxes can reduce the net returns from your investments, and poor planning can trigger unnecessary tax liabilities. A tip: use tax-deferred accounts and adopt tax-efficient strategies like harvesting losses.