Life is full of rules. There are so many rules that we have people making hundreds of thousands of dollars a year to tell us what all of the rules mean. Moral rules, tax rules, and rules for the rules. Do you have rules for your finances? If you’re like most people, they don’t have financial rules but if you’re investor, the quickest way to lose money is to commit money to stocks without financial rules.
Now that we know that we have to have them, I’m going to give you some of my financial rules to get you started:
20% of my portfolio is green
We often think of green is good for the environment but in this case we’re not talking about keeping our planet healthy. Instead, we’re keeping our bank account healthy with cash. While the amount may dip slightly below 20% for short amounts of time, NEVER can you be fully invested. That is no more evident than June 15th, 2009. The stock market dipped nearly 200 points and before the end of the day, some stocks had dipped more than 4% in one day. This day was a prime buying opportunity. Stocks were on sale June 15th. If I didn’t have my 20% cash reserve, I wouldn’t have had the buying power to buy these bargains.
You must diversify
You will read these wacky articles by people who claim to have their entire portfolio in one stock or one sector but that doesn’t mean that it’s a good idea. Sure, diversification will almost always mean that you won’t make as much money as you could have but personally, I’m pretty happy when I make 30% on a position and if I lose out on a couple percentage points, I’m still doing good. You must first protect your money and that means diversification.
Some will tell you to get your money in the large cap, blue chip stocks and leave it there for years and decades to come. Sure, you can do that but we’ve learned that while it’s relatively safe, there is no sure thing. Speculative stocks are small companies that are just getting their start. While there is a chance that they may not make it, there is also a chance that if you invest early, your money could double, triple, or more. A small amount, no more than 15% of your portfolio could go to companies like this but if you go with the big companies, you aren’t going to do any better than the market in most cases.
I’ll be honest and say that these rules often have taken me out of a position too early but even more often, it has saved me from huge losses. Now, get out a piece of paper and make your rules.
Tim is the author of https://www.elementary-finance.com, a financial blog providing beginning advice to those who have a desire to learn the basics of investing and finance.