ETFs: Five tips on how to reduce the risk of losses on your investment

Kathleen Altmann

Many people make the mistake of waiting for the right time to start investing in Exchange Traded Funds (ETFs). There isn’t one. But, with inflation close to double digits, leaving your savings in a bank account certainly isn’t a good idea either. If you want to invest available funds in ETFs, you can reduce the risk of losses on your investment with these five tips. 

Tip 1: Invest your money for between ten and 15 years

When you’re investing in ETFs, you should choose the longest possible term of between ten and 15 years. After all, the stock exchange is constantly fluctuating. No one can see into the future, of course, but over the longer term, you can avoid losses and build wealth. The return on a lump-sum investment, for example, in a global index like the MSCI World Index over the last ten years would have been around 106 percent. However, making the same investment for the last year only would have resulted in a loss of around 17 percent.

Tip 2: Take different sectors and regions into account

You can also minimise your risk by diversifying your investment. The more diverse, the better. And this is why investing in an ETF is a good idea because it takes different sectors and regions into account. But don’t just focus on ETFs from one particular country and in one particular area. This could result in your investment being subject to sharp fluctuations. These kinds of ETFs are more suitable as part of a mix of investments. 
You can also achieve broader diversification with a higher number of securities from different businesses. The name of the index often provides a clue as to its size. For example, an ETF on the Euro Stoxx 50 is linked to the development of the 50 shares contained in the index. While an ETF on the US S&P 500 index contains 500 shares.

Tip 3: A monthly savings plan reduces the risk of loss significantly

If you’re setting up an ETF savings plan, when you start is not that important. While you risk losing out if you make a lump-sum investment just before the price goes down, this is unlikely to happen with a savings plan. The losses you might incur with a lump-sum investment will not occur to the same degree with a savings plan because you won’t have invested your entire savings amount yet. In fact, you can take advantage of the lower price to buy up shares more cheaply. Who doesn’t like to buy at a discount? Calculated across the entire period, you get a cheaper average price (cost average effect).

Tip 4: Work out your risk appetite and choose wisely

ETFs with large companies are usually less risky than ETFs with lots of smaller businesses. The larger companies are often better able to compensate for turbulent economic phases. Ask yourself, how well are you able to cope with market fluctuations?
You should also try and determine how well you cope with lots of risk. This is because our emotions often influence our investment decisions. It’s not always easy to work out how you feel about risk and then act accordingly. This is where advice from experts can be very helpful. Good advisors will take into account your personal and financial situation and work with you to create a personal risk profile based on your knowledge, experience, wishes and goals.
Also, choose your ETFs carefully. There are ETFs that contain only bonds and some that are only based on shares. There are also mixed ETFs whose portfolios consist not only of bonds and shares but also commodities, for example. Each of these asset categories has its own special features and will affect the amount of risk involved.

Tip 5: Take three to five years to prepare your exit strategy

In particular, the timing of your exit will have a considerable influence on the return on your investment. While you can ‘ride out’ losses at the beginning or in the middle of the term, towards the end it’s not so easy and would reduce the amount of wealth you’ve saved up.
So, if you know you need the money at a particular point in time, make sure you’re prepared. You should start to reduce your investment risks three to five years beforehand. 
And remember: the more risk you have, the better and earlier you should start preparing your exit strategy. You can do this by gradually selling your riskier positions or by shifting your money into more conservative investments.