Investment Horizon

What Is It?

The investment horizon is the amount of time you, as an investor, expect to hold an investment before selling it. It plays an important part in determining what your income requirements and risk tolerance are likely to be over a specified period of time. Determining your investment horizon should be done prior to creating your investment portfolio, as it helps to determine what type of securities your portfolio should hold and what your investment profile and goals are.

Any investment horizon under 3 years in length is generally considered to be short term. Medium term typically refers to an investment horizon between 3 and 8 years, while long term usually refers to investment horizons longer than 8 years, often extending to 20 or 30 years.

What Is It Used For?

Over longer investment horizons, equity investments (stocks and stock mutual funds and ETFs) become more attractive for investors seeking growth than investments in cash or fixed-income investments (bonds and similar investment instruments). This is because, historically, equities have provided higher average returns over long time periods than fixed-income investments. The benefit of having a longer investment time horizon is that you can participate to the full extent in the stock market’s cyclicality, enabling you to ride out economic downturns and take advantage of more outperforming markets. Investing in stocks over a short investment horizon runs the risk of only participating in the stock market while an economic downturn is in progress.

As a result, for shorter-term investment horizons, the greater volatility (risk) associated with equities can offset the higher average returns associated with the asset class. Thus, an investor with a long investment horizon may feel more comfortable investing a larger portion of their portfolio in stocks than an investor with a short investment horizon – for instance, one who is just about to retire.

Selecting your investment horizon should be done prior to creating your investment portfolio, because knowing your investment horizon is a crucial factor in determining what type of investment approach is most appropriate to use in building a portfolio to help meet your financial goals.

Other Considerations

To invest successfully in the stock market, patience is usually required, as the greater return potential of equity investment comes with greater volatility. Investors with a short-term investment horizon should be especially cautious about investing in stocks – if an economic downturn strikes during the period they are investing it can make it difficult to reach their financial goals.

Investors with medium- term investment horizons have more time to allow their portfolios to experience bull markets and to recover from a market downturns, but should also be cautious when determining how much of their portfolio to invest in stocks in case a long-lasting economic downturn occurs.

Investors with long term investment horizons are typically more comfortable investing in stocks. Long-term investors who exercise patience generally have time on their side when it comes to experiencing the positive effects of market cycles.