What are the sources of returns investing in the financial markets?

There are two ways to make profits in the financial markets:

  1. Entering and exiting the market at the most appropriate times. This is called Market Timing.
  2. Selecting the best assets for our investment strategy. This is called Security Selection.

Our thoughts on Market Timing

For an inexperienced investor, even for advanced or professional investors, it is difficult to know when is the best time to enter the market to buy and even more difficult to know when is the best time to sell, especially when there is a lot of uncertainty in the financial markets. 

Trying to seek short term profits from our investments only through Market Timing is very complicated even for a professional investor.

The opposite strategy of buying and selling securities seeking short term profits based on the movements in its price, is to buy financial assets and hold them and analyse the results of our asset selection strategy after a certain period of time (buy and hold).

Our thoughts on Security Selection

Selecting the best assets for our investment is the most important task and the one that brings the most value.

What to consider:

  1. Asset selection should follow a defined strategy.
  2. You should have to identify the level of risk that you are able and willing to carry and match your portfolio of assets to those risk limits.
  3. You should have to build your portfolio considering the individual risks and how the assets behave with each other to know the overall risk of the portfolio. Remember that you cannot value anything for which you don’t have metrics. Quantification in these cases is necessary. Intuitive or qualitative criteria are useless. There are tools to measure the overall risk of a portfolio.

What you should not do:

Buying assets solely on the basis of their expected return.

This way of constructing a portfolio, common among inexperienced investors, can lead you to have an aggregate of assets and not a portfolio. More worrisome is not knowing the overall risk you are bearing in your investments and that the resulting risk is one you are unable or unwilling to assume.

José Luís Álvarez – CEO HollyMontt

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