Five Personal Factors Influencing Investment Strategy

Published at 1716445399.937248

Each individual has unique investment objectives, whether it is saving capital for retirement, growing capital, or generating a steady income for short-term needs. Clearly defining investment objectives is the foundation for building an effective investment strategy that aligns with each individual's objective.

The qualitative investment objective to quantify includes two main factors, the return objective and risk tolerance. These two elements are closely related. Investment strategies offering high returns often entail higher levels of risk. Therefore, investors must carefully weigh return objectives against risk tolerance when selecting an appropriate investment strategy. Additionally, investors' return objectives and risk tolerance should be considered in the context of their specific constraints, such as investment capital size, time horizon and liquidity requirements. These factors directly impact investors' risk tolerance, consequently influencing their return objectives.

Overall, building an investment strategy tailored to each investor requires consideration of the following 05 factors:

  • Return objective;

  • Risk tolerance;

  • Investment capital size;

  • Time horizon; and

  • Liquidity needs.

Return Objective

Return objective refers to the percentage of return an investor aims to achieve within a specified time horizon to meet a financial objective. Return objective can be expressed in various forms, such as:

  • Average percentage over a time horizon. For instance, an average annual capital growth of 15% within 3 years.

  • Specific amount. For example, reaching a profit of 10 billion VND in the current year on an investment of 100 billion VND.

  • Benchmark comparison. For instance, outperforming the VNIndex by an average return of 7%. 

Return objectives play an important role in guiding and evaluating investment performance. Comparing actual return achieved with return objective helps investors evaluate the effectiveness of deployed investment strategies. When actual returns do not reach the objective, investors can adjust the investment strategies accordingly to improve performance.

Keep in mind that return objectives should be realistic. An unrealistic return objective such as 100% per year can lead to excessively risky strategies that pose the threat of total asset loss.

Risk Tolerance

Risk tolerance refers to an investor's willingness and ability to withstand fluctuations in asset value while pursuing their financial objectives. In other words, it indicates an investor's capacity to tolerate the risk of loss during their investment journey.

An investor's risk tolerance is influenced by two factors:

  • Willingness to bear risk is the psychological comfort level of an investor regarding the potential for financial losses. It relates to their mindset concerning uncertainty and the potential negative outcomes. In other words, willingness to bear risk is the psychological threshold of an investor.

  • Risk capacity refers to the maximum level of loss an investor can bear, taking into account their actual financial circumstances. This ensures that any losses incurred do not affect their financial plan or ability to achieve investment objectives.

Risk tolerance is the equilibrium between an investor's willingness to bear risk and their risk capacity. If the investor's willingness to bear risk outweighs their risk capacity, they should opt for an investment strategy aligned with their actual risk capacity. Conversely, if their risk capacity is significantly higher than their willingness to bear risk, the investor may have missed a profitable opportunity by adopting an overly cautious investment strategy.

Willingness to Bear Risk

Risk Capacity

Below Average

Above Average

Below Average

Prioritize capital preservation strategies.

May have missed a profitable opportunity by choosing an overly cautious investment strategy. 

Above Average

Opt for an investment strategy aligned with actual risk capacity.

Willing to engage in a variety of different strategies, including venture capital investment strategies.

Capital Size

Capital size impacts investment decisions in many different aspects. An investment capital that is too small may limit the asset options, as some assets require a minimum capital to participate. Moreover, limited investment capital may also limit the ability to diversify investment portfolios to minimize risks.

Certain investment strategies may yield optimal results with limited capital. Overcommitting capital to these strategies can result in unexpected outcomes. It is necessary to carefully assess the appropriateness of investment strategies with the existing capital size to ensure optimal efficiency.

With a significant capital size, investors may encounter the risk of price slippage during transaction execution. During such instances, building algorithms to optimize transaction costs tailored to each investment strategy type can significantly impact investment performance.

The capital size also indirectly influences stock trading fees. Investors with substantial capital may have the opportunities to negotiate lower transaction fees, thereby reducing costs and improving investment performance.

Time Horizon

Time horizon refers to the duration an investor intends to hold their investment before needing to access the funds. Time horizon can be categorized as short-term (less than 1 year), medium-term (1 to 5 years) or long-term (over 5 years).

Investors may pursue multiple financial objectives simultaneously, with each objective corresponding to a distinct time horizon. With a long-term time horizon, investors are able to tolerate higher levels of risk since they have more time to navigate through short-term market fluctuations and potentially recover from losses. Conversely, short-term time horizons require a conservative investment strategy that prioritizes liquidity.

In practice, time horizons of less than 3 years often yield relatively unpredictable outcomes due to market fluctuations. Returns tend to be more stable with the time horizons of over 5 years.

Liquidity Needs

Liquidity needs refer to the extent to which investors require the conversion of their investments into cash. Investors with high liquidity needs are those who require cash from their investments regularly or urgently. For example, individuals nearing retirement may have high liquidity needs to cover their living expenses, while businesses may require cash for unexpected operational costs. On the contrary, investors with low liquidity needs do not frequently or urgently require cash from their investments.

The liquidity of each investment asset type varies - Liquidity refers to the ability to easily and quickly convert an investment asset into cash without significantly impacting its value. Investors need to carefully assess their personal liquidity needs and thoroughly understand the liquidity characteristics of each asset type to build an appropriate and efficient investment strategy.