Investment Portfolios: What they are and how to create a diversified portfolio

An investment portfolio is a set of financial assets that belong to an individual person, company, or investment fund.

A portfolio can be made up of different financial assets such as stocks, bonds, commodities, funds, ETFs, currencies, cryptocurrencies, index trackers, etc. Also included in an investment portfolio are tangible assets such as art, real estate, and land.

The objective of any investment portfolio is to provide a return on the capital (money) invested. To do so, the portfolio must be properly diversified and take into account three key factors:

• The Investment Goals: What does investment success look like to you? For some people it’s having a portfolio cross a certain amount threshold, while for others it might look like an annual dividend income amount.
• The Time Horizon: How long do you expect to be investing? This can be short, medium or long-term; anything from later this month to 50 years in the future.
• The Risk Profile: Taking greater risks with an investment portfolio may yield bigger returns, but it also opens the door for greater drawdowns (losses). If you don’t feel confident that you’d be able to keep a cool head when the markets are particularly volatile, then you may be considered a more conservative investor, rather than moderate or aggressive.

Depending on the balance of the three factors above, a portfolio’s asset allocation will reflect the relationship between desired profitability, risk, and success timeframe.

It’s entirely possible to manage an investment portfolio without any outside help. Many people seek investment funds or ETFs rather than picking individual stocks. Others decide to hand over their entire portfolio management to a single professional and occasionally check in with them to see how they’re doing.

Regardless of who is in charge of the portfolio, there are three management methods, each with its own advantages and disadvantages.

In active portfolio management, the manager is responsible for analyzing and selecting the securities and assets that make up the portfolio at any given time. They decide what to buy, when, at what price, and when to sell. This active management can make changes to a portfolio every day, once a year, or anything in between, depending on how the market matches with the investment hypothesis. A benefit of this is the flexibility it affords to immediately take advantage of stock volatility or other opportunities.

The goal is to beat the market. For example, if the portfolio is based in the US, the objective would be to obtain a better annualized return than one of the main American indices (such as the S&P 500). For a Spanish investor, that might instead be measured against the IBEX 35, and for a UK investor, the FTSE 100 (and so on).

Passive portfolio management is an investment strategy that aims to replicate the performance of a specific market index (either in whole or in part), such as the S&P 500, rather than trying to outperform it.

This approach involves selecting a diversified mix of assets that closely match the composition of the chosen index and then holding them over the long term. By doing so, investors can benefit from the general upward trend of the market while minimizing trading costs and the need for constant monitoring. The goal is to achieve steady growth and reduce risk through broad diversification, making it an attractive option for those who prefer a more hands-off investment strategy.

The percentage of a portfolio’s asset type weightings can often suggest not only the risk profile but also the time horizon of an investor.

Here’s a reference list based on best-practice.

70-90% in stocks, 10-30% in government bonds, 10% in cash to be able to take advantage of any investment that arises.

Bond exposure is increased as stock percentage decreases. This errs more towards 50-70% in stocks, 30-50% in government bonds, with the 10% difference still held in cash/deposits/interest-bearing accounts.

Usually found with investors who have a low risk appetite, a short time-horizon for capital drawdowns (or both), a conservative portfolio is usually no more than 20% in shares, with a heftier 50%-60% in bonds, and more available cash than the other portfolios (usually around 20%-30%).

While uncommon, it’s also possible to have a portfolio which consists of 0% stocks, 50% in fixed income (such as bonds) and 50% in deposits and remunerated accounts (cash).

Diversification is a best-practice that involves spreading investments across various asset classes, sectors, and geographic regions to reduce risk. By doing this, you avoid putting all your eggs in one basket, which means that the poor performance of one investment is less likely to significantly impact your overall portfolio. Portfolio diversification reduces risk, stabilizes returns and therefore helps to preserve capital.

• Assets: The ideal is to spread the capital among several asset classes, such as stocks, indices, currencies, bonds, and commodities. The selection of the assets and their percentage would depend on the risk profile of the portfolio.
• Markets: Diversification can also happen within the same asset class. For example, the equity (stocks) portion can be distributed across different sectors (banks, energy, electricity, etc.)
• Geography: Invest in both domestic and international markets to reduce the risk linked to a single country’s economic performance.

Rebalancing (also sometimes called readjusting) a portfolio consists of periodically realigning the percentage weightings of each individual asset.

Over time, some investments will outperform others, which can shift your portfolio’s composition away from your original asset allocation. By rebalancing, you ensure your portfolio stays aligned with your financial goals and risk tolerance.

• Set a Regular Schedule: Decide how often you will review and rebalance your portfolio, whether it’s quarterly, semi-annually, or annually.
• Monitor Asset Performance: Keep an eye on how your investments are performing relative to each other and your target allocation.
• Rebalance When Necessary: When your asset balance deviates significantly from your target (e.g., by 5% or more), take action to adjust it.
• Use Automatic Tools: Some investment platforms offer automatic rebalancing features, which can help you maintain your portfolio’s allocation without constant manual intervention.
• Consider Tax Implications: Be mindful of the tax consequences of selling investments to rebalance, and consider using tax-advantaged accounts for this purpose if possible.
• Cost-Efficiency: Factor in transaction costs and make changes in a cost-effective manner, potentially using no-fee trading platforms.

While no two portfolios are ever exactly the same, there are nevertheless some popular investment portfolio strategies that are often used as the basis. Here are eight examples.

This is a perfect example of a ‘Balanced Portfolio’, this is made up of two asset classes:

• 60% shares (variable income)
• 40% bonds (fixed income)

A 40/60 portfolio helps to minimize risk (and therefore losses) when there is a downturn in the market (caused by recessions, black swan events, economic crises, poor investor sentiment, etc). It also helps to reduce volatility thanks to its fixed-income component which provides more consistent returns to the portfolio holder.

This investment portfolio is based on dividing the capital we want to invest into six different assets, and does so by assigning different percentage weightings to each.

• 30% US Shares
• 20% Real Estate
• 15% Other (Developed) Economies
• 15% US Treasury Bonds
• 15% Inflation-protected Bonds
• 5% Emerging Markets

It’s a favorable way to diversify investments in various asset types in order to reduce volatility and the risk of economic losses.

A type of active management strategy, this portfolio involves selecting a set number of stocks that have a good chance of generating attractive returns over the longer-term (either through capital appreciation or dividend reinvestment).

Generally these portfolios hold between 10 and 20 companies, with 85% of the total portfolio value concentrated in no more than 10. The time horizon for this portfolio sits between 5 to 10 years.

Also called the 25% split, this is based on investing money into four assets:

• Stocks: It is preferable to do this with US stocks and European stocks.
• Long-term Bonds: specifically government bonds, not corporate bonds.
• Gold: through investment funds and ETFs.
• Cash: bank deposits with a low maturity, as well as remunerated bank accounts.

The allocated money must be divided equally between these four assets, so they each hold 25% weighting, and are recalibrated with regular consistency.

Created to be made up of the shares from the Dow Jones index, this portfolio is also perfectly valid upon using other indexes. (e.g. “Dogs of the FTSE” or “Dogs of the IBEX”.)

It consists of taking the 10 highest-dividend-yielding shares from the index based on the end of the final session (last trading day) from the previous year. Of these 10 companies, the investor purchases the same number of shares (important to note that this is not the same as investing the same amount into each stock). The stocks of these 10 companies are then held for the full year.

For investors who are focused on income rather than growth, this portfolio is created by buying shares of companies known as dividend royalty. That is, either Dividend Aristocrats or Dividend Kings. While there are no weighting percentage ‘rules’ for this portfolio type, the companies themselves must:

• Have distributed and increased the dividend for at least 25 (for Aristocrats) or 50 (for Kings) consecutive years.
• Be part of the S&P 500 index.
• Have a minimum market capitalization of $3 billion.
• Have a minimum average daily trading volume of $5 million.

Value stocks are those which are considered currently undervalued (or cheap) because their intrinsic value is lower than their current price.

Again, there are no rules for weighted percentages, but the stocks are commonly bought and held at least until their intrinsic value and market price are aligned (usually in the medium to long term).

This portfolio is based on growth stocks: companies that have a significant margin for growth in the short to medium term. These are commonly companies linked to the world of startups and the technology or emerging sectors, rapidly expanding companies and those which do not distribute dividends or buy back shares because they reinvest all profits to continue growth.

In our premium tool InvestingPro, you can find hundreds of interesting investment portfolio ideas that have proven to beat the market in the medium and long term.

In addition, Pro users are also able to access all of the top outperformance portfolio ideas, see which equities compose each one, and any changes (rebalances) that occur at the start of each month.

The AI ProPicks Portfolios are made up of stocks which are selected based on artificial intelligence and a series of fundamental analysis metrics and ratios. This makes it straightforward to analyse and then replicate the portfolios that best match your investment strategy.

Here are some of the portfolios and their current results (as of 2024).

• Better than S&P 500: Consisting of 20 S&P 500 companies. Annualized return 24.1%
• Dominate the Dow Jones: made up of 10 Dow Jones companies. Annualized return 19.1%
• Technology Titans: made up of 15 leading technology companies in the sector. Annualized return 29.8%.
• Best Stocks: Signed for potential high-value hidden gems before they blow up. Annualized return 22.5%
• Best of Buffett: The best holdings from the portfolio of the greatest investor in history, Warren Buffett. Annualized return 15.4%
• Mid Cap Opportunities: made up of 20 mid-cap companies. Annualized return 18.1%.

In all the cases above, the weighting of each company in the portfolio is the same. For example, in portfolios made up of 10 shares, the same amount of money is allocated to each. This of course means that investors will own different amounts of shares in each company, but be equally invested monetarily. One of the benefits of this methodology lies in its simplicity – the world of investing can be confusing enough that straightforwardness is often key.

1. Log into your free Investing.com account.
2. Choose which investment portfolio you’d like to replicate.
3. InvestingPro users can tap the orange ‘Copy to Watchlist’ button in the top right corner, and a new watchlist will be automatically created.
4. On the first business day of each month, check the composition of your portfolio on Investing.com. Investors who have signed up for alerts will also receive an email about the recalibration.
5. Adjust your portfolio by selling the stocks that were removed and buying any new entry stocks.