What does an investment horizon mean?
Investors use the word “investment horizon” to discuss how long they plan to hold on to a security or a portfolio.
How Investment Horizon Works
Investors can have time frames ranging from very short (a few days) to long (decades or more). If a young worker has a 401(k) plan, for example, they would be able to invest for decades. However, the finance department of a company might only be interested in investments for a few days at a time.
Some trading techniques, like those that use technical analysis, can even use investment horizons as short as minutes, hours, or days.
How much danger an investor is willing to take and how much income they need will often depend on how long they plan to keep their investment. Most of the time, investors are less willing to take risks when their financial horizon is shorter. One of the first things investors must do when assembling an investment portfolio is set an investment timeline.
Investment Horizons and Building a Portfolio
When buyers put their money away for a longer time, they can risk more because the market has a longer recovery time if it goes down. For instance, an investor with a 30-year investment plan would probably put most of their money into stocks.
After that, an investor with a long-term view might put their money into stocks that are thought to be risky, like mid-cap and small-cap stocks. Because they aren’t as well-known and are more affected by outside economic forces, these stocks, or sub-asset classes, tend to have much more significant price changes over short periods than large-cap stocks.
People who only want to spend for a short time may find these short-term swings risky, but they don’t affect people who want to hold on to stocks for 30 years.
As an investor’s investment horizon gets shorter, they make changes to their portfolio, usually to lower the amount of risk. One example is that as people get closer to retirement, most retirement funds hold more fixed-income assets and less equity. Over the long term, fixed-income investments usually have a smaller potential return than stocks. However, they add stability to a portfolio’s value because their prices change less dramatically in the short term.
An example of an investment horizon
She works as a software engineer and is 30 years old. She invests for the long run and doesn’t like taking risks. So, she buys a house and puts her savings into fixed-income stocks that will mature in 30 years.
Conclusion
- You can think of an investment horizon as when you are ready to keep your portfolio.
- The amount of danger an investor is willing to take usually shows up in the price.
