Strategic Investment: Why Starting with Moderation Makes Sense

Navigating the Investment Jungle: Why Starting with Moderation Might Be the Way to Go

Sunita Rao, CFA

Chartered Financial Analyst | International Commercial Arbitrator | Fellowship in Life Insurance | AIF | PMS | Mutual Funds | CFP

Investing can be an exhilarating yet intimidating journey, especially for first-time investors. With a myriad of investment options available, it's crucial to make informed decisions that align with your financial goals, risk tolerance, and time horizon. One common piece of advice often given to newcomers is to begin with a bold, aggressive approach - allocating a substantial 80% of their portfolio to equity funds. While this advice may seem enticing, it's vital to consider whether it's the right path for everyone.

In this blog, we will explore the idea of beginning your investment journey with a more moderate approach and transitioning to a more aggressive stance over time. Let's examine why this might be a prudent strategy, especially for those who may be anxious about the market's unpredictability.

The Aggressive Approach

Financial planners and market enthusiasts often tout the advantages of an aggressive investment strategy, particularly for young and daring investors. The primary argument in favor of this approach is the potential for higher returns over the long term. History has shown that equities tend to outperform other asset classes like bonds or cash over extended periods. This long-term focus can be appealing, especially when you're young and have a considerable investment horizon ahead.

However, the aggressive approach is not without its drawbacks, especially for newcomers. Placing 80% or more of your portfolio in equities means that you're exposing yourself to a higher level of risk. Equity markets are notorious for their volatility, and even seasoned investors can feel uneasy when the market takes a downturn.

The Emotional Rollercoaster

Investing is not just about numbers; it's also about emotions. When you start with an aggressive approach and the market experiences a significant downturn shortly after you begin, it can be emotionally devastating. The fear and panic that come with witnessing your hard-earned money shrink can lead to hasty decisions like selling off investments at a loss, which is often counterproductive.

The Cushion of Wealth

Here's where the idea of starting with a cushion of wealth in more moderate funds becomes appealing. By allocating a larger portion of your initial portfolio to bonds or other less volatile assets, you create a safety net for yourself. This cushion of wealth can provide emotional stability during market downturns, preventing you from making impulsive decisions driven by fear.

A Gradual Transition

The key to this strategy is not to stay in moderate funds forever but to gradually transition towards a more aggressive allocation over time. By doing this, you allow yourself to grow comfortable with the ups and downs of the market. You learn to weather the storms and see the bigger picture: that markets tend to recover over time.

A three-year timeline is a reasonable period to consider before shifting to a more aggressive allocation. During this time, you can gain experience, build confidence, and become better equipped to handle market volatility. You'll also have the opportunity to witness how your investments perform in various market conditions.

Conclusion

While the idea of starting your investment journey with an aggressive allocation may sound appealing, it's essential to consider your own risk tolerance and emotional preparedness. For many first-time investors, beginning with a moderate approach and gradually transitioning to a more aggressive stance can be a more prudent strategy.

Remember that investing is not a one-size-fits-all endeavour. It's crucial to assess your own financial goals, risk tolerance, and comfort level with market fluctuations. By doing so, you can make informed decisions that will set you on a path towards long-term financial success, regardless of whether you choose an aggressive, moderate, or a balanced approach.

Originally published Aug 29th, 2023