Financial Market – An Unpredictable Market
Financial market is full of uncertainty. In fact, the most certain thing about the financial market is uncertainty. No one can accurately predict the movements of any financial instrument. Even the most experienced and most successful traders are never accurate 100% of the time. One of the biggest stories this week in the financial market is about billionaire and successful hedge fund manager, Bill Ackman. Ackman manages a multimillion dollar hedge fund called Pershing Square Capital. He has managed to grow the fund from $50 million to more than $20 billion at its peak. However, as successful as he Is, he recently lost more than $4 billion after the shares of his biggest investment, Valeant crashed from $273 to the current $28. He is not alone. In fact, in 2015 alone, more than 1000 previously successful hedge funds closed shop. In this article, I will focus on how to rebalance risk and build a good portfolio.
Financial Market – How to Rebalance Risk
The first thing I need to emphasis is on the short term view. Having a good short term view is of the most important decisions you can ever make. This is the opposite of what is advocated by Warren Buffet who I agree is the biggest investors of our time. Warren, through Berkshire Hathaway owns more than 30 companies. Some of these companies have been owned for more than 50 years.
While this diversification has worked very well for Warren, I have a different view especially for young people who have no access to the billions that Warren has. Having a short term view will help you become very rich. Honey, this must be done well. Here is the thing, companies will allays go up and down. People’s tastes and trends will keep on changing. For instance, Facebook is now the leading social media network. However, it will not be the biggest social network in the next 10 years. That’s the reason why the company spent more than $20 billion to buy Instagram and Whatsapp. A long term investor in Facebook will certainly be shocked when people’s tastes change. The same is coca-cola which is the biggest soda company in the world. While the company has survived, it’s growth has slowed in US has slowed as people move to healthier options.
Being a trader will help you navigate risk on a daily basis. It will help you navigate the risks in the market by buying shares when a company is doing well and going short when the company is underperforming. Thus, you will be able to avoid the market cycles.
Financial Market – Focusing on Assets
Another way of rebalancing risk is by focusing on more than one asset class. Some of the asset classes available in the market are: currencies, treasury bonds, corporate bonds, commodities, and equities among others. While I have been very successful trading currencies, I have noted that having a balanced portfolio of two or three asset classes works fine. For instance, I currently trade the energy markets where I short or buy oil while at the same time trading oil companies such as Exxon. This is a form of hedging or arbitrage where I buy oil (in large quantities) while shorting an oil company (in small quantities). Thus, if the price of oil goes up (leading to a decline in oil price) I will be fully hedged. My profit will be the spread.
By rebalancing risk, you will be at a good position to make more profits while reducing risk. At times, the profits will not be that big because of the strategy used but by doing this, your account will be protected. There are many ways of rebalancing your risk. Some of these ways are using small lot sizes, moving with the trend, and arbitrage among others.