7.3.1. Different Types of Investors and Investment Strategies
Though many different factors should be considered when determining suitability and proper asset allocation for a customer, there are some basics to follow when defining investors and investments. First of all, asset allocation is driven primarily by what you need the money for. Do you need it to buy groceries tomorrow? Do you need it for a down payment on a house in the next five years? Or do you want to save it for retirement or for a trust for your future grandchildren? Knowing this can help you assess risk tolerance, and risk tolerance, in the world of securities and investing, is all about volatility and time horizon. How big are the swings you are willing to tolerate? If you need the money for groceries tomorrow, you can’t afford any swings in the value of your portfolio, and you should have your money in cash. But if you’re saving to buy a house in 5 years or saving 30 years for retirement … you get the idea. So when talking to customers, a fundamental question is, when do you want to access the money you have invested?
Next, let’s review the meaning of some terms. By “capital preservation” we mean not losing your money. Safety first. By “capital appreciation” we mean growth, the dream of all investors. By “income” we mean the cash returns (interest, dividends, and other distributions) that some investments pay investors. By “speculation” we mean the willingness to risk losing it all for the opportunity to win big. Speculators may have a short- or long-term time horizon, but the defining feature of a speculative investor is that she is willing to take great risk for the possibility of great gain. Viva Las Vegas!
Conservative investors often fall into three types: (1) individuals who are approaching or are at retirement age; (2) individuals who have limited financial resources, including a low or negative net worth; or (3) individuals who will need their invest