How Your Investing Time Horizon Impacts a Portfolio’s Risk and Return
November is Financial Literacy Month, and now, in a time of decades-high inflation, rising interest rates, fears of a global recession, and a volatile stock market, it’s more important than ever to manage your finances and find the right risk/reward balance that suits your investing timeline and goals.
And that’s one of the most important things to consider when it comes to investing: investing timeline. It will dictate risk tolerance, expected rate of return, starting balance, the kind of equities you hold in your portfolio, and how long you hold them for.
Every investor has a different investing timeline. For some, it’s decades, years, months, or even weeks or days. Once the investor has reached their objective, they liquidate their investments. Common investing objectives include paying down debt, purchasing a home, going on a vacation, or saving for retirement. A wealth management advisor can help you account for investing time horizon in your portfolio.
Types of Investing Time Horizons
An investing time horizon is the period of time where an investor expects to hold an equity to reach a specific goal. Investments generally fall into one of two main categories: stocks, which are riskier, and bonds, which are less risky.
The longer the time horizon, the more aggressive a portfolio can be. For a shorter investing time horizon, most investors are more conservative.
Short-Term Investing Timeline
A short-term horizon refers to investments that are held for three to five years or less and/or may be needed to access at a moment’s notice. Popular short-term investments that can be easily accessed include money market accounts or high-interest savings accounts.
Medium-Term Investing Timeline
An experienced retirement advisor will tell you that medium-term investments are for those who want to hold for five to 10 years. Medium-term investment strategies are focused on balancing between high and low-risk assets, which would include a mix of stocks and bonds. This is a great way to protect your wealth and combat inflation.
Long-Term Investing Timeline
A long-term investing timeline is for those who expect to hold their equities for 10 years or longer. Most long-term investments are for retirement and long-term investors are generally more willing to take greater risks to generate greater rewards.
Why Is Investing Time Horizon Important?
Investors with a short-term investing horizon may be concerned about what’s going on in the markets right now, meanwhile those with a long-term investing horizon are less concerned with near term volatility.
Why? Stocks go through a pretty reliable economic cycle, you may not know the time frame, but historically, every recession eventually ends, stocks recover, rebound, hit new highs, and crash. What’s important to remember is that the sell-off tends to be a lot shorter than the booms, and over the long-term, the markets trend higher.
Case in point, the worst economic collapse of the 20th century began in October 1929. The Great Depression followed, and stocks lost up to 80% of their value. It took seven years, but the markets eventually rebounded.
Since then, stocks have had average annual returns of 9.59%. That’s more than 40% more than bonds’ average annual returns, and more than 10% greater than a balanced portfolio of stocks and bonds.
Other stock market crashes and recoveries have occurred even faster. On Monday, October 19, 1987, the Dow Jones Industrial Average cratered 23%, the biggest one-day drop in history. It took the Dow Jones Industrial Average four years to recover.
Fast forward to March 2020 when the pandemic-fuelled stock market sell-off sent the S&P 500 crashing 35% lower. Wall Street staged a remarkable recovery, and on August 12, the S&P 500 hit a new record closing. It took less than five months for stocks to go from the March lows to a new record. This made the 2020 bear market the shortest in history and the recovery the fastest on record.
What’s the Best Investing Timeline for Me?
It’s a cliché, but there is no one-size-fits-all approach to investing. That said, a retirement advisor will tell you that each strategy impacts the risk and return for a portfolio differently. Thanks to compounding interest, a longer investing timeline can generate greater profits than a short-term investment.
That’s why it’s important to start saving for retirement as early as you can. Over just a few decades, a small investment can generate massive returns.
Sharp Asset Management for Your Retirement Planning
Every investor has a different investment timeline, it’s all based on their goals and risk/reward appetite. It’s the length of the investing timeline that will determine what kinds of investment products are most suitable for your goals. And, as the time horizon changes, so too will the investment allocation.
Sharp Asset Management Inc. is an independent portfolio management firm that is 100% owner-operated. Since we are a highly concentrated group of professionals, we can respond quickly to changing market conditions. To learn more about investing with Sharp Asset Management, contact us today.