After understanding the various types of risk involved in the stock market for both the investor as well as the stock that you buy, isn't it obvious to next understand how to manage this risk??After all, what often separates a wise and successful investor from the crowd is how he manages risk.
Eager to know how?
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One of the best ways to fight off stock market risks is to have a diverse portfolio. When investing in stocks, avoid limiting your stock picks from a particular sector, industry or company size (like large-cap, small-cap, mid-cap).
The more you diversify across different sectors or industries like telecom, financial, agricultural, etc, the broader your portfolio becomes, and lower your tends to be. A diversified portfolio also helps in fighting off market volatility by balancing the risk.?
For instance, when a particular sector¡¯s stocks are not performing well due to internal or external factors, your portfolio may bleed red. In that case, if you need urgent funds and need to redeem those stocks, you would end up sitting on a pile of losses, isn't it?
That's exactly where a diversified portfolio would be helpful. Through a diversified portfolio, underperformance or turbulence of a particular sector¡¯s stocks can be offset or balanced out through another sector/industry¡¯s gains. That way, your portfolio¡¯s overall risk gets reduced and your chances of incurring losses get lowered too. So, it certainly makes sense to hold a diversified portfolio when investing in the stock market.?
Both stock market traders and investors generally have a tendency to panic or start questioning their investment strategies when market volatility spikes, especially in the case of novice investors who are still finding their feet in the market.?
Such investors often get tempted to follow the crowd during the ebb and flow of the market. The inevitable fluctuations of the stock market are often able to give nightmares to such investors which often results in them making wrong decisions.?
It's exactly in such scenarios when people should let go of their fear and instead take advantage of market fluctuations. Remember, a wise person learns from his mistakes. But a wiser one learns from the mistakes of others! So, watch and learn from what mistakes others do besides reflecting upon your actions.?
When the market bleeds and a pessimistic mood drives stock prices down, take advantage of that and grab the opportunity to invest in that stock. And when the market becomes bullish again and stock prices rise, sell those stocks and, hence, generate high profits! This way, you are able to turn the otherwise fearful and ¡®risky¡¯ situation of market correction or crash into a great opportunity to buy the dip and earn great returns.
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One of the biggest enemies of an investor is emotions.?The twin emotions of fear and greed are what often drive people towards incorrect investment-related decisions.?
On the one hand, the emotion of greed leads investors towards increasing their investments during bull market conditions, when high valuations should instead worry them as that often indicates a possible overvaluation or market bubble which is about to burst.?
On the other hand, the emotion of fear is what leads investors to panic and redeem their existing investments or stop making additional investments during market corrections or crashes, when equities are actually available to be grabbed at attractive valuations! Either way, these twin emotions spike the risk of making incorrect decisions.
That is why it's all about preventing these emotions from clouding your rational decision-making. Resist the ¡®obvious¡¯ urge to panic, feel fearful or greedy in extreme market conditions or fluctuations, and instead stick to the basics of investing and go with rational decision-making in order to earn good returns instead of sitting on a pile of losses like most of the crowd.
Another mistake that increases the risk for stock market investors to hold underperforming portfolios and incur losses, is the lack of periodic review of the portfolio. No matter how much research you did regarding a stock before purchasing it, it's equally important to track its performance and review your portfolio from time to time.?
This assists in the timely detection of not only under-performing stocks that you may be better off selling instead of keeping them unnecessarily in your portfolio, but also assists in timely sell-off of the high-performing ones.?
Moreover, if you have a specific financial goal and investment horizon tied to the portfolio like accumulating downpayment for a house or car, retirement corpus etc., it's crucial to review your picked stocks' performance from time to time. This would help in eliminating and replacing the underperforming ones with better-performing stocks which would help you in achieving the target corpus/returns.?
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