What is a Portfolio?
The Definition and Best Practices of Investment Portfolios
In financial media and investing literature you've probably seen the term "portfolio" but you might not know exactly what is meant by the term. Or if you're like many other investors with otherwise good intentions, you might have a portfolio of mutual funds but it's not properly constructed.
Investment Portfolio Definition
In investing, a portfolio is a collective whole that consists of more than one investment holdings. In a conventional investment portfolio, the holdings are often equity securities, or what are commonly referred to as stocks (i.e. "a portfolio of stocks").
With mutual funds, all of the underlying holdings combine to form one single portfolio. Imagine a bucket filled with rocks. The bucket is the mutual fund and each rock is a single stock or bond holding. The sum of all rocks (stocks or bonds) equals the total number of holdings or the mutual fund portfolio.
Building a Portfolio of Mutual Funds
Although one mutual fund can itself be considered a portfolio, it is wise to build a portfolio of mutual funds, or what one can consider to be a portfolio of portfolios. The reason it is smart to own more than one portfolio is for what is called diversification. When you diversify correctly, you can minimize the volatility (ups and downs) and create a mix of investments that is best suited for your financial goals and risk tolerance.
Diversification embodies the saying, "Don't put all of your eggs in one basket." Before building a portfolio of mutual funds, it is important to understand and gauge your risk tolerance by completing a risk profile or risk tolerance questionnaire. This is an important step in portfolio construction because you don't want to make the mistake of investing in mutual funds that are too aggressive for your investing personality. For example, if you think you'll lose sleep at night if the value of your portfolio goes down, you should avoid investing aggressively.
Mutual Fund Portfolio Example
Once you decide if your portfolio of mutual funds should be conservative (low risk), moderate (medium risk) or aggressive (high risk), you can then decide which types of mutual funds to buy or add to your portfolio.
Here are some examples of each basic type of portfolio with suggested fund types:
15% Large-cap stock (Index)
05% Small-cap stock
05% Foreign Stock
45% Intermediate-term Bond
30% Cash/Money Market
40% Large-cap stock (Index)
10% Small-cap stock
15% Foreign Stock
30% Intermediate-term Bond
05% Cash/Money Market
Keep in mind that the above examples are only educational guides to help you get started. Also keep in mind that you may not be able to buy all of these funds at once because many mutual funds have minimum initial purchases that are higher than $2,000.
If you're not able to buy more than one mutual fund, take a look at this article on how to invest with just one fund or this article on best funds to get started investing with just $100.
Disclaimer: The information on this site is provided for discussion purposes only, and should not be misconstrued as investment advice. Under no circumstances does this information represent a recommendation to buy or sell securities.