In an ideal world, we would be able to earn significant investment returns with no risk. As we all know, this scenario does not exist. A more realistic alternative is to build a globally balanced portfolio, which reduces overall risk.
Many investors unknowingly take risks in their portfolio that are much higher than their comfort level. Sometimes they are rewarded and other times they pay the price with a loss of capital. Taking defined risks as part of on overall diversified strategy is not a bad idea. This is in fact what investing is all about; finding ways to increase the overall return of your portfolio without exposing it to a large potential decline. Buying this or that stock because someone told you it was going to go up is not investing – it’s speculating and usually is not a risk worth taking.
Risk and return are related. Usually, to get more return you have to take on more risk.
If there was an investment available that gave you a disproportionately high return given the risk involved, others in the market would figure it out and also try to capitalize. This demand would in turn drive up the price of the investment to a point that is comparable to other investments that have similar risk/return characteristics. Each and every minute of every day publicly traded stocks and bonds continually adjust to new information.
Smaller capitalized companies tend to be more risky than larger capitalized companies (i.e. there is a greater degree of price fluctuation in small companies vs. large companies). Therefore, investors expect to be rewarded for taking on this extra risk through a higher rate of return.
A value stock tends to trade at a price below its fundamental worth. In other words, investors are either ignoring the company or viewing the company as more risky relative to its peers. When looking at value companies you have to separate those companies that are a bargain due to a mis-pricing by the market and those companies whose price is low because there may be trouble looming.
So, in effect, small capitalized and value stocks, although more risky, can have a place in a well-diversified portfolio.
United Financial's private investment pool managers* have a team of analysts that ensure the stocks they purchase have strong fundamentals and future growth potential. Ideally, we always ensure our clients have a globally diversified portfolio that includes both small capitalized and value asset class categories to help them capture the potential of earning the higher return premium of these asset classes over time.
A key factor when designing a portfolio is to ensure that your allocation is consistent with your overall risk profile.The United Financial brand of solutions is managed by CI Investments Inc.