Diversification of investment means selecting multiple asset classes or investing in the different asset categories. It is a popular technique employed by most investors to lower risk and increase the chances of good returns. Unfolding your investment in different areas develops a risk-proof portfolio, which means if one investment fails, another will balance it out.
How to design a diversification strategy?
Having a diversified portfolio helps palliate risks. However, investors usually wonder the quantity of diversification rather than quality. Too less or excessive diversification may not provide the most coveted outcome. You have to design a balanced and wise diversification plan for better returns.
Why diversification is a must?
Firstly, diversification lowers risk. Secondly, the returns of different asset classes differ in different phase of life. The investment in one asset class fetched negative returns this year, but other investments have performed exceptionally well in the market. This has balanced your loss/risk. For better understanding, stated below is an illustration:
Mr. X invested in gold and it has performed wonderfully until last year. However, in the current year it has brought in negative numbers. But his investment in stocks has worked in your favor and brought in superlative return.
The above example shows how Mr. X earned handsomely well, despite losing upon one asset. Therefore, diversification is needed.
How should investors diversify stocks?
Diversification in shares or stocks can be easily achieved by purchasing stocks from different sectors. However, it is important to select sectors that are not related. This way a fall in one sector may not affect other sector much. For instance, an investment in Infrastructure stocks will not have a direct effect on your investment in Pharmacy stocks. However, it is significant not to diversify too much because over diversification creates problem in managing and tracking your portfolio.
How investing in different asset categories helps investors?
Investment in different asset classes like:
What are the advantages of a diversified portfolio?
Diversified portfolio pronounces several benefits to the investors. Revealed below are a few:
What are the Risks even after Portfolio Diversification?
What are the dangers of over-diversification?
What are the perils of too less diversification?
If you do not diversify your portfolio, your risk of losing too much on assets will increase. Also, less diversification will lead to high risk.
The main goal behind portfolio diversification is risk diversification, earn a decent return in a reasonable time frame with less volatility fulfill the planned financial objectives. In order to diversify your portfolio in a customized way, you must have a comprehensively created financial plan to achieve your aims.
The author is Ramalingam.K an MBA (Finance) and certified financial planner. He is the Director & Chief Financial Planner of holistic investment planners (www.holisticinvestment.in) a firm that offers Financial Planning and Wealth Management. He Can be reached at firstname.lastname@example.org