Think of all the sweet treats that children find during an Easter-egg hunt: chocolate of all varieties, eggs of all shapes and sizes and marshmallows galore.
Well, an investment portfolio is remarkably similar; it is a "basket" in which all your assets – including cash, bonds, real estate and domestic and international equities – are represented.
Having a "basket full of treats" across asset classes can prove to be profitable, but it is critical to know where to invest to optimise your returns. Investing in index-tracking ETFs (Exchange-Traded Funds) is typically the best way to access all the asset classes. Additionally, combining individual ETFs into a managed portfolio of ETFs has become a powerful investment method.
Lance Solms, managing director at Itransact, shares his top tips to consider if you are looking to build the best ETF portfolio for your financial future.
- Diversify across asset classes
The old saying "Don't put all your eggs in one basket" best applies here. Having a diverse portfolio helps limit the money you lose when markets are falling, while providing the best exposure when markets are rising. Investing in a managed index fund that consists of ETFs remains the most effective way to do this.
This is because ETF portfolios are generally chosen on the basis of different risk-reward combinations from "low risk, low return" to "high risk, high return" ones, or different types of income streams such as fixed or variable income with the potential for capital growth.
ETFs track the top-performing shares in an index so you never have to worry about which individual shares to invest in. A well-constructed ETF portfolio covering all the market sectors should expose you to the collective performance of over 1,800 different shares. This means if a few shares don't perform well, your investment outcome is hardly affected.
- Keep costs to a minimum
Another reason to consider ETF portfolios when beginning to invest is that they have low fees, because you'll be investing for the long term. Holding your investment for the long term will save you a lot in unnecessary expenses and management fees, and may prevent actual losses when the value of the market declines. Remember that you lose money when you physically sell your investment in a downward market. Patient investors only suffer a "paper loss", meaning they don't physically realise their loss.
- Leave it alone
As tempting as it is to keep checking on your investment and even sell shares to take a profit from time to time, one of the best things you can do is leave it alone to enjoy the power of compounding. Compounding works simply: two doubles to four, four doubles to eight, eight doubles to sixteen, sixteen doubles to thirty-two, thirty-two doubles to sixty-four and so on. Compounding usually happens every five years that you remain fully invested, so imagine just how much you can accumulate by remaining in the market for five compounding cycles – which equates to 25 years.
- Practise discipline
Above all, don't panic. Remain calm, be patient and exercise discipline by focusing on the original reasons you started investing. It is true that you're investing your hard-earned money and taking some risks that could see you make a loss, but it's essential to remove emotions from the decision-making process and trust the trend that has seen the markets go up more times than they have gone down over the past 50 years. In fact, negative market returns only occur, on average, one out of every four years – proving that the positive years far outweigh the negative years.