Allocating funds on a portfolio of shares

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For a stock investor, selecting the stocks to buy is the most important step. This stage can require extensive research and forecasts of the expected future performances of the companies to be invested in. The next stage after this is the process of allocating funds on a portfolio of shares. This depends on several factors that will be discussed in this article.

Note that this article is a summary of the following articles:

• Investing in Shares – creating a portfolio
• Investing in shares – understand the basics
• Buying and selling stocks

Allocating funds strategy

Average Down Strategy

Under the average down strategy, you allocate your funds to the stocks in your portfolio with falling prices to pull down the average cost of the shares. Suppose that the average cost of stock A is $ 55, but the share price of A is now $ 50, then you can pull down this average cost by buying more shares. During a stock market crash, this strategy is very useful since it reduces the overall losses on your portfolio.

Volatility of the stocks

If you are a risk taker, you can allocate more money to buy stocks that are highly volatile. These stocks have a high chance of either gaining higher returns or major losses. You can also check the beta of the stocks on your list. Stocks with a high beta will be greatly affected by changes in the market. If the market is doing well, these stocks will be very attractive but when the market is performing badly, they also perform badly.

Depending on your risk appetite, you can either choose to have a portfolio that minimizes risk by investing heavily on stocks that are not too volatile or you can maximize the return by going for volatile stocks. Your portfolio need to optimized to match your risk profile.

The likelihood of dividend payments

Returns can be gained on stocks through capital gains or dividends. Some companies can declare dividends to its shareholders if they make profits in a given period. Some companies can decide to retain the profits back into the company and shareholders will gain nothing.

If you want to earn dividends from your stocks, you may look at the profitability of the companies on your list. You can also check their dividend policies. There are ratios that can assist you on deciding whether the company is likely to pay dividends or not. These are:

• Earnings per Share (EPS) which gives a picture of the profitability of your stocks. If you want to get dividends then invest more on stocks with high EPS. The higher the profitability, the higher the likelihood of getting dividends.
• Price Earnings Ratio which is a ratio of the share price to the earnings per share. This ratio gives you a signal of whether the stocks are undervalued or not. Undervalued assets are those with very low Price Earnings ratio and these are the stocks you may need to allocate your funds.

However, these ratios may not be enough because they are entirely based on the idea that the past is a good prediction of the future. This may not be true. In recent years we have seen pandemics causing stock market crashes. The ability of the company to pay dividends depends on what happens in the future and this may not be clear today.

New investors may need to invest in companies that have a solid long term focus and the companies they know very well.

Portfolio Rebalancing

If it happens that you may have lost your investment strategy, you can revert back to it through portfolio rebalancing. Portfolio rebalancing is a process of adjusting your portfolio weights to meet its original targets.

Suppose initially you were targeting a portfolio that minimizes risk but due to Coronavirus pandemic, you heavily invested on risky stocks to take advantage of their cheaper share prices. After the pandemic, you may need to allocate more money towards stocks that have low volatility again to achieve your target of minimizing risk.

Conclusion

Allocating funds on a portfolio of shares depends on several factors. This may depend on the strategy you are adopting, your risk appetite or the likelihood of dividend payments. It is important to stick to your investment strategy when you are allocating funds on your portfolio of shares.