Your investment horizon is the time you expect to hold investments in your portfolio. Along with risk tolerance, expected rate of return, starting balance and anticipated future contributions, investment horizon is one of the key considerations guiding asset allocation and portfolio management. Investment horizon is commonly measured in decades, years and months but may be weeks, days, hours or even seconds. When the investment horizon is reached, an investor will plan to liquidate the investment and use the proceeds to accomplish the objective. Common objectives include paying for retirement, purchasing a home and retiring debt. A financial advisor can help you account for investment horizon in your portfolio.
Investment Horizon Basics
Investment horizon, also referred to as time horizon, is one of the fundamental considerations used to construct and manage an investment portfolio. Others include risk tolerance, investment objectives and expected rate of return. Investment horizon influences and is influenced by each of the others.
Investment horizon particularly impacts risk and rate of return. When an investment will be held for a longer period of time, the investor can generally take on more risk. Riskier investments typically yield higher rates of return. For instance, an investor with a long investment horizon, such as one measured in decades, can put more money into higher-yielding but more volatile stocks as opposed to bonds, which typically generate lower returns but may be less susceptible to losses.
Choosing the wrong investment horizon can cause an investor to fall short of the objective. For instance, if an investor chooses a too-short horizon and invests in more volatile assets, the investment may have to be sold during a market downturn. This can result in failure to reach the objective or, at the least, delay in reaching the objective. Similarly, choosing a too-long investment horizon may mean the investor over-emphasizes assets with lower returns, causing needless delay in accumulating sufficient assets to fulfill the objective.
Typical Investment Horizons
Retirement is a common investment horizon, and many retirement savers measure their investment horizons in decades. Very active investors, such as high-frequency traders, on the other hand, may anticipate holding a given investment only overnight or, sometimes, even for a few hours, minutes or seconds.
For asset allocation, investors often refer to three general types of investment horizon:
- Short-term – This usually means less than three years and could include saving for a down payment on a home.
- Medium-term – This could mean three to seven years and might refer to paying off student loans or other debt.
- Long-term – Seven years and longer is often a time frame used for investing to fund retirement.
Investors typically have multiple investment horizons, each addressed by parts of the portfolio. For instance, funds to be used for a short-term horizon might be placed in safe assets such as government bonds, Medium-term horizons could be addressed by a mix of assets favoring fixed-income securities.
Other Investment Horizon Concerns
Liquidity is a key component of a plan addressing investment horizons. Since the plan is to liquidate the asset when the investment horizon is reached, it’s essential that the asset be readily liquidated. Stocks are highly liquid, since they can be sold any time. Other assets, such as real estate, are much less liquid and may not be suitable for shorter investment horizons.
Additional investment horizon factors to include:
- Investment length. Younger investors often have longer investment horizons than older investors, especially for objectives such as retirement.
- Retirement age. The planned retirement age is the investment horizon for retirement savers.
- Investment amount. If a higher-earning investor can plan to make sizable future contributions to the portfolio, it can significantly shrink investment horizon.
- Risk tolerance. Investors who are in for the long haul can take more risk, all else equal, but some investors have a fundamental adversity to risk, which can extend their investment horizon.
- Disposable income. An investor who chooses to devote more disposable income to maintaining a comfortable lifestyle may also be choosing to extend his or her investment horizon.
- Special objectives. Buying a second home, paying for a child’s college tuition, hosting a wedding and other special goals objectives can also have an affect on overall asset allocation and management.
- Special situations. Future inflows of funds from sources such as an inheritance or sale of a business can also shorten investment horizons.
Investment horizon is a key concern when allocating assets and managing an investment portfolio. Many investors will have multiple investment horizons, each designed to accomplish a specific financial objective. A balanced portfolio with a blend of stocks, bonds and other assets is often necessary to address the various investment horizons.
Investment Planning Tips
- A financial advisor can help you select a time horizon for your investments. SmartAsset’s free tool matches you with up to three financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- Use SmartAsset’s free online Investment Calculator to help you determine a realistic investment horizon for your financial objectives. It begins with the starting amount you have to invest, the amount and frequency of additional contributions and rate of return in order to tell you how much your investment will be worth after a set number of years.
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