An investment strategy is the set of rules and behaviors that you can adopt to reach your financial and investing goals. Choosing an investing strategy can be a daunting task when you are starting to learn about investments and finance. Here we will look at the larger overall strategies rather than very specific strategies.
Given that this is such a broad term there can be strategies that go from the top (Overall Portfolio Strategies) to the bottom (stock-picking strategies). You can decide on a strategy starting with an overall strategy and then select more specific strategies (top – down approach) or similarly you can look at a specific strategy and select the overall strategy that goes with (bottom – up approach).
What’s important to note is that a strategy can incorporate multiple strategies, practices and tools. Doing one strategy does not always mean that another strategy cannot be used in conjunction. What’s most important is finding your own strategy and familiarizing yourself with all the different strategies and financial tools that are available so that you can make a decision that is well suited for you.
Picking a Strategy
Given the huge number of strategies and variations within strategies we are only going to review common strategies. The level of risk for most is highly dependent on the type of investments made, rather than the strategy itself. The most popular strategy that is used by most investors that would go to a bank or an investment firm, for example, is a mix of diversification and asset allocation.
- Random picks
Picking a large amount of random stocks has been found, on average, to be more successful than the vast majority of trading strategies.
Involves following whatever stock is “hot” at the time.
- Buy and hold
Involves simply buying stocks and holding them for a longer period of time.
- Day trading
Considered to be fairly risky trading strategy of buy and selling many times in one day to take advantage of fluctuations in the market.
Involves doing the opposite of the current market sentiment. Buying when everyone is selling and selling when everyone is buying.
Involves trying to time market ups and downs and trading accordingly, usually done with technical analysis.
Using Technical analysis to make decisions.
Using Fundamental analysis to make decisions.
Finding assets that give income on a regular basis (such as dividends)
Finding assets that will have high potential growth but little current income.
Choosing a large number of stocks or assets to reduce risk.
- Asset Allocation
More of a guideline than a strategy, that can help with determining the correct amount of investment in each asset type.
As we’ve seen, even a buy and hold strategy can be incredibly complex depending on the specific strategy you use and the level of analysis made. What’s important is to tailor your strategy with what you are trying to accomplish. Someone who needs money right away but is risk seeking and has a great deal of knowledge may consider day trading to be a very viable option. Similarly, someone who has decades to invest and moderate risk aversion may still want to try his hand at day trading.
Passive Vs Active
Overall Strategies can also be broken up into passive and active categories:
Passive strategies are just that, passive. After making the initial decision to purchase a stock, investment, etc. the passive investor will keep it for months or years without making large changes. An example of this is someone like warren buffet who generally holds stocks for long periods of times and does not make changes to his holdings very often.
The active trader, however, will trade multiple times a week or even per day and will constantly evaluate what he is doing. Day traders are the most obvious example of an active trader.
It’s important to note that passive and active trading is over a spectrum, so someone who makes a few adjustments to their portfolio a few times a week could still be considered passive depending on the size of his portfolio for example.