An investment portfolio is a set or collection of investments held by an investor. It may include stocks, bonds, mutual funds, commodities (say gold), real estate or other securities or financial assets. An investment portfolio is built to meet certain investment objectives of the investor. Because each investor's expectations, circumstances and risk outlook are different, there is the need for a portfolio that fits his investment profile. More appropriately, a portfolio reflects the objective of risk diversification - a collection of investment assets selected to minimise portfolio risk or, better put, to maximise expected return for the investors risk preference level. Simply put, an investment portfolio is an investment basket selected with the objective of optimising returns as well as meeting the risk acceptance of the investor.
The need for a 'portfolio' of investments is rooted in the reality of the riskiness of all investments. If investments were without risk, an investor would more conveniently channel all his resources in one investment outlet, say a particular company stock, which he adjudges as offering the returns potential he expects. The reality is that returns are subject to variability due to factors that affect the market as a whole (systemic risk) or the particular security (unsystemic risk). This variability of returns reflects the risk profile of the investment i.e. the likelihood that the returns will vary from expectation.
It is to mitigate the impact of this risk (that is, to hold returns as close as possible to the investor's expectation) that different assets from different classes, companies, sectors of the economy and even regions of globe may be built into a 'basket' that diversifies out some risk, leaving a safer investment bundle. That is, the extremes cancel out, giving a less volatile returns expectation.
In effect, as an investor, you need to select a set of investments that will ensure that you don't easily lose money or earn poor returns. You will carefully decide how to spread your money among stocks and financial assets that are not subject to the same influences. For instance, some stocks and some real estate investments will mean that if the stock market declines but the property market is strong, the investor's position balances out. That selection process is called portfolio construction. The idea of correlation of returns is important as the aim is to pick securities and assets that are not positively correlated. Not being positively correlated means that their fortunes are not similarly affected by the same factors.
Read more on portfolio construction in our online article What Experts Look For In A Strong Investment Portfolio.
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