There is a famous saying that goes, “Don't put all your eggs in one basket.” This saying is very apt when it comes to making investments. A diversified portfolio basically means putting your money into multiple types of investments, such as stocks, bonds, and other kinds of assets. The benefit of diversifying your portfolio is that it will help you manage risk as you will not be putting all your money into one place, and it may also be the key to unlocking long-term investment growth. While there is no clear-cut formula on how one should diversify their portfolio, there are a few simple and fundamental principles to keep in mind before making diverse investments.
1. Finding The Right Balance
The essence of portfolio diversification is putting your money in different asset classes to help mitigate risks. The largest asset classes are stocks, bonds, and cash in the form of money market funds and bank certificates of deposits (CDs). A diversified portfolio can contain multiple asset classes which are groupings of similar types of investments. There are also alternative investments such as real estate or commodities (gold, silver). The optimal proportion of each asset class will depend on different factors such as your age, size of your portfolio, risk-taking tolerance.
2. Managing Risks
Stocks are known to perform better than other asset classes, however, they are also volatile. The longer your time horizon the higher are your chances of seeing your portfolio increase. Stocks are an ideal investment choice for a younger person as well as for someone with an already large portfolio as their ability to afford retirement will not be compromised by a dip in the stock market.
If you have a low-risk tolerance and get nervous about the volatility of the stock market you can expand your portfolio by investing largely in bonds and cash and a small number of investments in stocks. This will help you stay relatively stable as your diversified portfolio will not fall in case of a decline in the market.
3. Market Fluctuations
It is important to keep in mind that market fluctuations are inevitable. An appropriately diversified portfolio and a patient and calm approach are the ideal way to ensure you are protected against major losses. It is important to keep yourself well informed as it could bring you one step closer to reaching your financial goals and reducing your investment risks for a more secure tomorrow.