# Portfolio Management: Definition, Types, and Strategies

![Portfolio Management](https://www.investopedia.com/thmb/E5r4t_uocW_GstY0TiYfZyQ_ULw=/1500x0/filters:no_upscale():max_bytes(150000):strip_icc()/portfoliomanagement_final_definition_0819-8aeba5bb85224330888eeae6d2ffe1b4.jpg)

*— Investopedia / Sydney Saporito*

> **Definition**
>
> Portfolio management is the art of selecting and overseeing a group of investments that meet the long-term financial objectives and risk tolerance of a client, a company, or an institution.

## What Is Portfolio Management?

Portfolio management is the process of [balancing risk against performance](https://www.investopedia.com/financial-edge/0412/the-best-portfolio-balance.aspx), determining the right mix of assets to optimize returns for the amount of risk you're willing to accept.

While many people manage their own investment portfolios, many rely on professional portfolio managers. Regardless of approach, successfully managing a portfolio requires an in-depth understanding of the key building blocks that drive investment success, including thoughtful asset allocation, [proper diversification](https://www.investopedia.com/articles/basics/05/diversification.asp), and disciplined rebalancing practices.

### Key Takeaways

*   Portfolio management involves building and overseeing a selection of assets such as stocks, bonds, and cash that meet an investor's [long-term financial goals](https://www.investopedia.com/articles/pf/12/financial-success.asp) and risk tolerance.
*   Active portfolio management requires strategically buying and selling stocks and other assets to beat the broader market's performance.
*   Passive portfolio management seeks to match the market's returns by mimicking the makeup of an index or indexes.
*   Investors can carry out strategies to aggressively pursue profits, conservatively attempt to preserve capital, or a blend of both.
*   Portfolio management requires having clear long-term goals, understanding any tax-code changes from the Internal Revenue Service (IRS), knowledge of the investor's risk tolerance, and a willingness to examine investment options.

## Understanding Portfolio Management

Professional licensed portfolio managers work on behalf of clients, while individuals can build and manage their own portfolios. In either case, the portfolio manager's ultimate goal is to maximize the investments' expected return within an appropriate level of risk exposure.

Portfolio management requires the ability to weigh the strengths and weaknesses, opportunities, and threats of a spectrum of investments. These choices involve trade-offs, from debt versus equity to domestic versus international and growth versus safety.

## Who Uses Portfolio Management

Portfolio management is a critical investment practice used by two types of entities: individual and [institutional investors](https://www.investopedia.com/terms/i/institutionalinvestor.asp). These categories have distinct strategies, goals, and resources. Understanding the different approaches and needs of these two types of investors can provide greater insight into how portfolio management techniques are applied across the financial spectrum.

Individual investors often focus on [personal wealth and future needs](https://www.investopedia.com/managing-wealth/simple-steps-building-wealth/), managing smaller amounts of money with varying degrees of professional assistance. In contrast, institutional investors manage large-scale assets with a professional approach tailored to fulfill specific financial obligations and institutional goals. Both groups, however, aim to improve their returns by managing their portfolios to suit specific circumstances and financial objectives.

### Individual Investors

Individual investors have a range of personal goals, risk preferences, and resources. Their objectives include saving for retirement, accumulating wealth for large purchases, funding education for children, or building an emergency fund. Each goal requires a different strategy or risk profile.

Individual investors' risk tolerance and [investment knowledge](https://www.investopedia.com/10-investing-concepts-beginners-need-to-learn-5219500) vary greatly. Their approach to managing investments can range from highly engaged active trading and rebalancing to relying on automated or professional management. As financial markets have evolved and technology has widened access to investment information, individual investors have had wider prospects to tailor their investment strategies to meet their financial objectives.

### Institutional Investors

Institutional investors are entities that pool large sums of money and invest those funds into various financial instruments and assets: pension funds, endowments, foundations, banks, and insurance companies. Each has specific objectives and constraints that influence its portfolio management strategies. Many institutional investors have long-term financial obligations that cause them to focus on long-term growth and sustainability over short-term gains.

In addition, institutional investors are often under strict regulatory oversight to ensure they manage their beneficiaries' funds responsibly. Moreover, [ethical and social governance](https://www.investopedia.com/terms/e/environmental-social-and-governance-esg-criteria.asp) issues increasingly influence their investment decisions. Risk management is a crucial part of the work of an institutional portfolio manager since these entities must balance the need for profitability with the imperative of preserving capital to meet future liabilities.

Institutional investors' investment approaches are typically conservative compared with individual investors, focusing on long-term stability, capital preservation, and meeting future obligations. Indeed, each type of institutional investor has distinct strategies and objectives, but all share the common goal of responsibly managing large pools of capital to meet the needs of their stakeholders.

## Passive vs. Active Management

Portfolio management can be either passive or active.

### Active vs. Passive Portfolio Management

Active Management

*   **Approach**: Hands-on
    
*   **Cost Implications**: More costly
    
*   **Performance**: Historically, over long periods, underperforms
    

Passive Management

*   **Approach**: Hands-off
    
*   **Cost Implications**: Less costly
    
*   **Performance**: Historically, over long periods, performs like the market
    

Passive management is the set-it-and-forget-it long-term strategy. It may involve investing in one or more ETFs. This is commonly referred to as indexing or [index investing](https://www.investopedia.com/investing-in-index-funds-4771002). Those who build indexed portfolios may use modern portfolio theory to help them optimize the mix.

Active management involves attempting to beat an index's performance by actively buying and selling individual stocks and other assets. Closed-end funds and many mutual funds are generally actively managed. Active managers may use any of a wide range of quantitative or qualitative models to aid in their evaluation of potential investments.

### Active Portfolio Management

Investors who use an active management approach have fund managers or brokers to buy and sell stocks in an attempt to outperform a specific index, such as the Standard & Poor's 500 Index or the Russell 1000 Index. Often, these investors will also use [portfolio management software](https://www.investopedia.com/best-portfolio-management-software-tools-11693031) to help them track their investments.

An actively managed investment fund has an individual portfolio manager, co-managers, or a team of managers actively making investment decisions for the fund. The success of an actively managed fund depends on a combination of in-depth research, market forecasting, and the expertise of the portfolio manager or management team.

Portfolio managers engaged in active investing pay close attention to [market trends](https://www.investopedia.com/terms/t/trending-market.asp), shifts in the economy, changes to the political landscape, and news that affects companies. This data is used to time the purchase or sale of investments to take advantage of market irregularities. Active managers claim that these processes will boost the potential for returns higher than those achieved by simply tracking the holdings on a particular index.

Trying to beat the market inevitably involves market risk. Indexing eliminates this particular risk, as there is less probability of human error in selecting the index stocks. Index funds are also traded less often, which means that they incur lower expense ratios and are more tax-efficient than actively managed funds.

### Passive Portfolio Management

Passive portfolio management, also known as index fund management, aims to duplicate the return of a particular market index or benchmark. Managers buy the same stocks listed on the index, using the same weighting that they represent in the index.

A passive strategy portfolio can be structured as an ETF, a mutual fund, or a unit investment trust. Index funds are branded as passively managed because each has a portfolio manager whose job is to replicate the index rather than select the assets bought or sold.

Management fees assessed on passive portfolios or funds are typically far lower than those of active management strategies.

## Discretionary vs. Non-Discretionary Management

Another critical element of portfolio management is the concept of [discretionary and non-discretionary management](https://www.investopedia.com/terms/d/discretionaryorder.asp). This approach dictates what a third party may be allowed to do regarding your portfolio.

A discretionary or non-discretionary management style is only relevant if you have an independent broker managing your portfolio. If you want the broker to execute trades that you have explicitly approved, you must opt for a non-discretionary investment account. The broker may advise you on strategy and suggest investment moves. However, without your approval, the broker is simply an advisor who must follow your instructions.

Meanwhile, some investors would prefer to leave all decisions to their broker or financial manager. In these situations, the financial advisor can buy or sell securities without the investor's approval. However, the advisor still has a [fiduciary responsibility](https://www.investopedia.com/ask/answers/042915/what-are-some-examples-fiduciary-duty.asp) to act in the client's best interest when managing their portfolio.

## Key Elements of Portfolio Management

### Asset Allocation

The key to effective portfolio management is the [long-term mix of assets](https://www.investopedia.com/terms/a/asset-mix.asp). Generally, that means stocks, bonds, and cash equivalents such as certificates of deposit. There are others, called alternative investments, such as real estate, commodities, derivatives, and cryptocurrency.

Asset allocation is based on the understanding that different types of assets do not move in concert, and some are more volatile than others. A mix of assets provides balance and protects against risk.

Investors with a more aggressive profile weigh their portfolios more toward volatile investments such as growth stocks. Investors with a conservative profile weigh their portfolios toward stable investments such as bonds and [blue-chip stocks](https://www.investopedia.com/ask/answers/031915/what-benefit-investing-blue-chip-stocks.asp).

> **Important**
>
> Rebalancing captures recent gains and opens new prospects while keeping the portfolio in line with its original risk-return profile.

### Diversification

The only certainty in investing is that it is impossible to consistently predict winners and losers. The prudent approach is to create a basket of investments that provides broad exposure across different assets.

Diversification involves spreading the [risk and reward](https://www.investopedia.com/terms/r/risk.asp) of individual securities within an asset class or between asset classes. Because it is difficult to know which subset of an asset class or sector is likely to outperform another, diversification seeks to capture the returns of different sectors over time while reducing volatility.

Real diversification is made across various classes of securities, sectors of the economy, and geographical regions.

### Rebalancing

Rebalancing returns a portfolio to its original target allocation at regular intervals, usually annually. It reinstates the original asset mix when market movements push it out of kilter.

For example, a portfolio that starts with a 70% equity and 30% fixed-income allocation could, after an extended market rally, shift to an 80/20 allocation. Investors have made a good profit, but the portfolio now has more risk than investors with that balance can tolerate.

Rebalancing generally involves selling high-priced securities and investing the money in lower-priced and out-of-favor securities. This annual exercise allows investors to capture gains and expand their chances for growth in high-potential sectors while keeping the portfolio aligned with the original risk-return profile.  

### Tax-Efficiency

A potentially material aspect of portfolio management relates to how your portfolio is shaped to minimize taxes over the long term. This is relevant for retirement accounts, as well as how long you plan to hold certain assets and which ones you choose.

For example, certain bonds may be tax-exempt. This means that any interest earned is not subject to taxes. Meanwhile, the IRS has different tax rules for short-term and long-term capital gains, with long-term capital gains being subject to lower taxes.

> **Fast Fact**
>
> Portfolios include investments across cash accounts, 401(k)s, IRAs, and other retirement accounts.

## Common Portfolio Management Strategies

Every investor's specific situation is unique. Therefore, while some investors may be risk-averse, others may be inclined to pursue the greatest returns (while also incurring the greatest risk). Very broadly speaking, here are several common portfolio management strategies an investor can consider:

*   **Aggressive**: An [aggressive portfolio](https://www.investopedia.com/terms/a/aggressiveinvestmentstrategy.asp) prioritizes maximizing its potential earnings. Often invested in riskier industries or unproven alternative assets, investors may be willing to risk losses. Instead, investors are looking for a "home run" investment by striking it big with a single investment.
*   **Conservative**: Meanwhile, a [conservative portfolio](https://www.investopedia.com/terms/c/conservativegrowth.asp) relates to capital preservation. Extremely risk-averse investors may adopt a portfolio management strategy that minimizes growth and the risk of losses.
*   **Moderate**: A [moderate portfolio](https://www.investopedia.com/terms/p/portfolio-investment.asp) management strategy blends an aggressive and conservative approach. To get the best of both worlds, a moderate portfolio still invests heavily in equities but also diversifies and may be more selective about which equities it invests in.
*   **Income-oriented**: This is often the option of choice for retired investors, who wish to live off their portfolio returns. These returns could come from bond coupons or dividends.
*   **Tax efficiency:** As discussed above, investors may be inclined to focus primarily on minimizing taxes, even at the expense of higher returns. This may be especially important for high earners in the highest income tax bracket. It may also be a priority for young investors who have a very long way to go until retirement. By getting started with a [Roth IRA](https://www.investopedia.com/terms/r/rothira.asp), these investors can grow their portfolio over time and face no federal taxes on these funds when they retire.  
    

## The Retirement Security Rule

When building and managing investment portfolios, it's crucial to understand the regulatory environment that governs financial advice. One significant aspect of this landscape is the Department of Labor's April 2024 fiduciary rule, known as the [Retirement Security Rule](https://www.investopedia.com/retirement-security-rule-8663997), which has been undergoing legal challenges since its introduction.

The Retirement Security Rule was finalized in April 2024 and originally scheduled to take effect on Sept. 23, 2024. However, in July 2024, two Federal District Courts in Texas issued orders blocking implementation, ruling that industry trade groups would likely prevail in their argument that the DOL exceeded its authority. The Department of Justice filed an appeal to the Fifth Circuit, but following the change in presidential administrations in January 2025, the DOL filed a motion to pause the litigation, effectively putting the rule's future in doubt.

As such, the financial services industry remains subject to the previous five-part test from a 1975 DOL regulation. Under this standard, professionals are considered fiduciaries when providing investment advice if they meet all of the following criteria:

1.  **Renders advice**: The individual renders advice about the value of securities or other property, or makes recommendations on investing in, purchasing, or selling securities or other property.
2.  **Regularity**: The advice is provided regularly.
3.  **Mutual agreement**: There is a mutual agreement, arrangement, or understanding with the plan or a plan fiduciary that the advice will serve as a primary basis for investment decisions.
4.  **Individualized advice**: The advice is individualized based on the particular needs of the plan.
5.  **Primary basis for decisions**: The advice will serve as a primary basis for investment decisions.

This standard has been criticized for being too narrow, potentially allowing some financial professionals to avoid fiduciary responsibility even when providing important investment recommendations.

These developments underscore the importance of individual investors understanding the nature of their relationship with financial advisors. It's crucial to know whether your advisor is acting as a fiduciary and what standards of care they are required to meet when providing investment advice, particularly for retirement accounts.

## Challenges of Portfolio Management

Whatever strategy is chosen, portfolio management always faces several hurdles that often can't be eliminated entirely. Even if an investor has a foolproof portfolio management strategy, investment portfolios are subject to [market fluctuations](https://www.investopedia.com/ask/answers/100314/what-are-key-factors-cause-market-go-and-down.asp) and volatility. The best management approach can still suffer from significant losses.

Though diversification is an important aspect of portfolio management, it can also be challenging to achieve. Finding the right mix of asset classes and investments to balance risk and return requires an in-depth understanding of the market and the investor's risk tolerance. Buying a wide range of securities may also be expensive to meet the desired diversification.

To devise the best portfolio management strategy, an investor must first know their risk tolerance, [investment horizon](https://www.investopedia.com/terms/i/investment_horizon.asp), and return expectations. This requires a clear short-term and long-term goal. Because life circumstances can quickly and rapidly change, investors must be mindful of how some strategies limit liquidity or flexibility. In addition, the IRS may change tax regulations, forcing you to change your investment strategy.

Lastly, portfolio managers charge fees. The portfolio manager must often meet specific regulatory reporting requirements, and managers may not have the same views of the market as you do.  

## How Do I Determine My Risk Tolerance?

This is influenced by your financial goals, investment time horizon, income, and personal comfort with risk. Tools like [risk tolerance questionnaires](https://www.investopedia.com/articles/etfs/090216/what-your-clients-willingness-and-ability-take-risk.asp) can help quantify your risk tolerance by asking about your reactions to hypothetical market scenarios and your investment preferences. In addition, thinking back to your past investment experiences and consulting with a financial advisor can provide a clearer understanding of the kinds of investments that are right for you in terms of your risk tolerance.

## What Is Asset Allocation?

Asset allocation involves spreading the investor's money among different asset classes so that risks are reduced and opportunities for profit are maximized. Stocks, bonds, and cash are the three most common asset classes, but others include real estate, commodities, currencies, and crypto. Within each of these are subclasses that play into a [portfolio allocation](https://www.investopedia.com/terms/p/portfolio.asp).

## What Should I Do if My Portfolio Has Significant Losses?

If this happens, it's important to avoid [panic selling](https://www.investopedia.com/terms/p/panicselling.asp) and instead assess the situation calmly. Start by reviewing your investment strategy to ensure it still aligns with your long-term goals and risk tolerance. Consider whether the losses are because of market volatility or fundamental changes in the assets you hold. Rebalancing your portfolio might be necessary to maintain your desired asset allocation. Diversifying your investments can also help mitigate future risks. Consulting with a financial advisor can give you guidance and help you make informed decisions about how to recover from your losses and adjust your strategy if needed.

## How Do I Evaluate How My Portfolio Is Doing?

Evaluating the performance of your portfolio involves comparing its returns against benchmarks (typically indexes that offer a mix like you're aiming for in your portfolio) and considering your investment goals. Data to review includes [total return](https://www.investopedia.com/terms/t/totalreturn.asp), your risk-adjusted return, and the performance of individual assets relative to their respective indexes. It's also important to review the consistency of your returns over time and whether your portfolio is making progress toward your objectives.

## The Bottom Line

Anyone who wants to grow their money has choices to make. You can be your own investment portfolio manager, or you can hire a professional to do it for you. You can choose a [passive management strategy](https://www.investopedia.com/ask/answers/040315/what-difference-between-passive-and-active-portfolio-management.asp) by putting your money in index funds. You can also try to beat the markets by actively managing your portfolio.

You'll want to pay attention to the basics of portfolio management: pick a mix of assets to lower your overall risk, diversify your holdings to maximize your potential returns, and rebalance your portfolio regularly to keep the mix right.

> **Article Sources**
>
> 1.  S.K. Parameswaran. "[Fundamentals of Financial Instruments: An Introduction to Stocks, Bonds, Foreign Exchange,and Derivatives](https://onlinelibrary.wiley.com/doi/book/10.1002/9781119816621)," Pages 114–120. John Wiley & Sons, 2022.
>     
> 2.  Internal Revenue Service. "[Topic No. 409](https://www.irs.gov/taxtopics/tc409)."
>     
> 3.  Plan Adviser. "[DOL Gets 60 More Days to Decide Next Steps in Fiduciary Rule Lawsuit](https://www.planadviser.com/dol-gets-60-days-decide-next-steps-fiduciary-rule-lawsuit/)."
>     
> 4.  Department of Labor. "[Fact Sheet: Retirement Security Rule and Amendments to Class Prohibited Transaction Exemptions for Investment Advice Fiduciaries](https://www.dol.gov/agencies/ebsa/about-ebsa/our-activities/resource-center/fact-sheets/retirement-security-rule-and-amendments-to-class-pte-for-investment-advice-fiduciaries)."