Many investors may not understand the concept of ensuring that they have a good portfolio balance. However, it’s not as complex or intricate as it seems. The basic idea of the portfolio, after all, is to distribute funds to various assets in certain proportions or percentages. By dividing up the portfolio, there is a greater chance that one portion of it will see an increase in profits. However, if this increase is allowed to dominate the portfolio, the balance will be destroyed, and a much higher risk of loss will be incurred in the highest valued asset.
The portfolio balance is a delicate concept, based on the equilibrium of funds in relation to each other. The purpose of this balance, is to ensure a much lower risk of loss in any part of the portfolio, while attempting to maximize the return on investment. The primary goal is to decrease risk, because any asset allocation project will ultimately fail, if no action is taken to reduce the risk that is induced by the profits of a few portions of the portfolio. The secondary goal is to recognize the underperforming funds, and sell them to invest in other funds that may yield a higher profit. However, it is also possible to generate extra cash from the assets that have already seen great increases. By placing a dependence on these well performing funds, the investor exposes the portfolio to a great risk. For example, if the dominant asset fails, the percentage invested in other parts of the portfolio will be much smaller, and there will be nearly nothing upon which the investor can fall back.
The key to maintaining a balanced portfolio, is to assess significant changes in the concentration of assets, that may lead to instability and increased risk. The accumulation of funds in a certain area, such as stocks or bonds, combined with the decrease of other funds such as cash may lead to a greater chance of an overall loss in the total value of the assets. While it may appear to be a smart decision to put all your eggs in one basket, metaphorically speaking, the seasoned investor understands the high risk associated with such a decision, and would never make such a choice, as it creates great uncertainty in the projected value of the assets.
The main concern that many investors have with a balanced portfolio is that it does not seem profitable. The concept of the balanced portfolio is based on the concept of risk, and not pure profit. Thinking solely about the profit that the portfolio can generate is a flawed attitude, given that it often leads to an imbalance among the funds. Once this equilibrium among funds is destroyed, the dominant asset will carry a very high risk, meaning that if it fails, much of the portfolio will fail as well. There will be no back up to this situation, so in order to ensure that risk is minimized, a balanced portfolio is always needed.
Simply stated, the portfolio balance is the key to any asset allocation project. If an investor chooses not to maintain this balance every so often, the portfolio will incur a much higher risk, something that the experienced investor would understand is a terrible thing to do. While it may be easier for some to consult more experienced people in the field, it is also possible to buy software that is optimized to maintain the portfolio balance that has been originally ascertained. Software such as Portfolio Rebalancer will help investors of all experience levels keep an eye on their portfolio balance.
Regardless of the manner in which an investor decides to maintain a balanced portfolio, the goal is always the same: decrease risk, increase profit. Overall, the method of managing asset allocation varies, but ensuring that you have a balanced portfolio, should be a very high priority.