Risk Management for Investors
Risk management is not a single tool. It’s a set of habits that limit the damage from bad outcomes.
1) Position Sizing
If one position is large enough, one mistake can dominate your results.
Simple rules of thumb:
- Avoid letting a single stock become an outsized percentage of the portfolio
- Size positions smaller when uncertainty is higher
2) Diversification
Diversification reduces the impact of company-specific bad news.
Diversify across:
- Companies
- Sectors
- Styles (growth/value)
- Asset classes (stocks/bonds/cash)
3) Drawdowns and Time Horizon
Drawdowns are inevitable. The question is whether your plan can tolerate them.
- If you need the money soon, avoid high-risk allocations.
- If your horizon is long, volatility can be acceptable.
4) Rebalancing
Rebalancing keeps risk from drifting upward after winners run.
Two common approaches:
- Rebalance on a schedule (quarterly/annually)
- Rebalance when allocations drift beyond thresholds
Summary
Good risk management is boring. It’s about sizing, diversification, and rules that keep you from making your worst decisions at the worst time.