Having built your mutual fund portfolio, you’ll need to know how to maintain it by employing a mutual fund investment strategy. Let’s take a look at four common strategies.
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1. The Wing-It Strategy
Among beginners, this is the most common strategy to invest in mutual funds. So how does it work? If you do not have a specific plan or structure for your investments and portfolio management, you are more likely to take a wing-it approach.
Investment decisions that accurately reflect your investment goals are difficult to make without a plan. Because of its inconsistency, this strategy is considered by most experts to be the least successful.
If you have a plan or structure to guide your investments, it should be much easier to manage your portfolio.
2. Market-Timing Strategy
With the market timing strategy, you want to enter a market sector at the best time. An important part of this strategy is to buy low and sell high. However, it is difficult to predict investor behavior because it depends on moods and emotions more than logic.
In reality, says Richard Cayne of Meyer International, investors tend to buy high and sell low. Therefore, it is doubtful that this strategy works because even experienced investors have difficulty predicting the future. Richard Cayne of Meyer International points out that there are many indicators of the market timing strategy.
3. Buy-and-Hold Strategy
Among all investment strategies, this is by far the most preached. In this strategy, you buy your investments and hold them for a long time, no matter how the markets perform.
If you use a buy-and-hold strategy and ride out the market’s fluctuations over time, you will gain more than you lose, or so the conventional wisdom goes. Warren Buffett, the legendary billionaire investor, has said that this strategy is ideal for long-term investors.
This strategy is also popular because it is easy to implement. There is nothing special about it; it is easy to buy and then hold.
If you encounter a financial obstacle, try to find other ways to overcome it before you even think about tapping your investment dollars.
4. Performance Weighting Strategy
This strategy is a mix of market timing and buy-and-hold. In this mutual fund investment strategy, you will make some periodic adjustments to your portfolio mix. Let us look at a highly simplified example based on real performance numbers.
Let us assume you have a $100,000 equity portfolio divided equally among four mutual funds, each with a 25% weighting.
The allocation to each fund does not remain the same after the first year of investment because some funds perform better than others.
Most mutual fund investors dump the loser fund (Fund D) after the first year and buy more of the winner fund (Fund A). But that’s not the point of performance weighting. Basically, performance weighting means you sell funds that have done well to buy funds that have done poorly.
Even though it goes against your heart, it’s the right thing to do because the only constant in investing is that everything is cyclical. From the fourth year on, Fund A is the loser, and Fund D is the winner.
Because of the performance weighting of this portfolio, year after year you would have taken profits from Fund A when it was doing well to buy Fund D when it was doing poorly. Because of the performance weighting, you would be further ahead if you had rebalanced this portfolio at the end of each year for five years. Discipline is the key.
Portfolio management is based on adherence to a disciplined investment strategy. Successful asset managers have discipline and they have a plan.
According to Warren Buffett, you do not need a stratospheric IQ, a deep understanding of business, or insider information to invest successfully over the long term. What is needed is a solid intellectual framework to make decisions and the ability to keep emotions in check.