When must I make changes to my portfolio?

By Larissa Fernand |  15-05-21 | 
 
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About the Author
Larissa Fernand is Senior Editor at Morningstar.in. Follow her on Twitter @larissafernand

There are certain times when the portfolio needs to be changed or the investment strategy revisited. Are there specific markets during which this must take place?

Switching your portfolio stance is not something that should be done frequently. In fact, it would be ill-advised to do so.

Ian Tam, director of investment research at Morningstar Canada, suggests a way to approach this subject.

When defining your investment strategy, it is often worthwhile to think of two "sources" of capital. The first is human capital, which is effectively your ability to earn money over time. The second is financial capital, which is how much actual money you have available to invest today.

Young investors have an abundance of human capital since it is likely that a young person has many income-earning years ahead of them. At the same time, young investors typically have very little financial capital as they are likely to have a lower wage and less cash to spare. At the other end of the spectrum, retirees have far less human capital but an abundance of financial capital.

When choosing an investment strategy, your risk capacity has lot to do with the sum of financial and human capital. The more capital you have (human or financial), the more risk you can afford to take.

There are stages in life when the balance between human and financial capital will change, and these are the times you could consider reviewing your portfolio or your investment strategy. 

Job loss 

When you lose your job, your potential human capital decreases. If this is a permanent change, your ability to withstand risk also reduces, and hence a revisit of your investment strategy to a more conservative approach may make sense.

This is all the more critical if your income is the primary cash flow in the household. You may have to pull back on equity investments, at least until you find a new job and replace your income. I have a friend who lost his job recently, and fortunately for him it was in the middle of a raging bull run. He sold a fair amount of his investments to help him tide through the coming months, as he had a family to support.

Retirement

When you retire, you transition from capital accumulation to capital decumulation phase of your investment journey. This is a major event that definitely requires a look at your investment approach (likely transitioning to conservative income-producing investments to fund your retirement requirements).

Gift/Inheritance

If you receive a monetary gift or inheritance from a family member, your financial capital increases. The increase of capital here may warrant a more aggressive investment strategy, all things equal.

Taking care of parents

If you are tasked with taking care of a loved one financially, you may not have the same ability to withstand risk. It may be worthwhile revisiting your investment strategy in favour or something more conservative.

Marriage

This will depend on whether both spouses are working. In such a case, taking a holistic view of both incomes and both portfolios would be complex. If one spouse has a very equity-heavy portfolio, it would be wise for the other to be more conservative. If one of you are not going to work but plan to start a family, you must prepare accordingly. Also, look at the life insurance needs and medical insurance needs of the family.

Also, consider cash flows whether a loan has to be serviced to buy a house.

Conversely, divorce too.

Death

Death of a family member is another factor. If both spouses are earning and one passes away, there may be a substantial drop in cash flows. Or, if an individual is supporting a parent and the parent is no more, the expenses drop.

On a closing note…

It is self-defeating to allow news and economic forecasts to drive your investment decisions. Use human and financial capital as a guide. Focusing on your risk capacity at a given point of time is a very good indicator of when you should make strategic shifts in your approach.

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