The Development of a Stock Market Portfolio
Stock market investments may involve systematically selecting stocks from various categories and different market segments based on set investment objectives and risk levels. Randomly investing in individual stocks without any coordinated goals brings less control over total investment results. The development of a stock market portfolio helps investors better manage risks with different stocks potentially complementing each others' performances. Portfolio development focuses less on individual stock analysis, and more on how stocks within a portfolio may perform differently.
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Risks and Objectives
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The development of a stock market portfolio provides investors with the opportunity to define and adjust their investment risks for any given levels of expected portfolio returns. Investing in stocks on an individual basis doesn't allow the same degree of convenience for risk adjustments when individual investments may have multiple investment objectives. An important aspect of setting investment objectives is how to balance risk and return based on the unique needs of individual investors. In general, for a given level of expected return, investors must take on a certain degree of risk. However, portfolio investments may further reduce risks without bringing down investment returns, depending on portfolio composition.
Diversification Principle
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An investment portfolio is not necessarily a diversified portfolio if its collection of stocks is mainly from the same stock category in terms of growth prospect, income-producing ability, size of market capitalization, etc. The principle of diversification is to allocate investment money not only among a number of stocks, but also different groups of stocks that are seemingly unrelated to each other in their expected investment performances. Therefore, if one group of stocks fails to perform, another group of stocks will likely achieve profitable returns, resulting in an expected average return for the portfolio.
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Stock Selections
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Stock selections are critical to achieving portfolio goals. Not all portfolios are the same even though they may have the same average annual returns. Portfolios may show different return deviations from one year to the next without affecting the average return. But different degrees of investment return uncertainties affect absolute investment results. Stock selections reflect the different weights assigned among different categories of stocks. Stock categories are often risk-perception based. To adjust risk higher for potentially higher returns, investors may choose more of growth stocks, small-cap stocks or international stocks. To adjust risk lower for more return certainties, investors may add some value stocks, income stocks or large-cap stocks.
Portfolio Management
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The development of a stock market portfolio is an ongoing task with portfolio rebalance occurring over time. As some stocks in the portfolio may come to be more risky, and other stocks may come to be less risky, the total portfolio risk profile may no longer fit with the investor's own risk preference. Portfolio rebalance often requires selling some of the winning stocks and buying some of the losing stocks. Such portfolio reconfiguration aims at bring current weights back to the target weights that reflected the desired risk level as initially set.
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