After making your very 1st investment, you may wonder what’s next in your financial journey. If you’re investing for the long term and would like to build a strong portfolio, diversification is a must.
This is the practice of spreading money across different investments to reduce risk. Here are some tips on how you can apply this strategy as a beginner.
1. Understand its importance
If you’ll only invest in 1 product, a loss in that single asset can hurt your entire portfolio and might discourage you from continuing your investing journey.
On the other hand, if you’re invested in multiple assets, a loss in a single investment may not have such a huge effect if the others are performing well.
By diversifying, you might lessen the impact of a single event on your overall portfolio.
2. Learn the different strategies
There are many ways to diversify and here are a few common approaches you can consider:
- Asset classes
Asset allocation is an approach that involves dividing your money between different asset types. The main asset classes are stocks, bonds, and cash and cash equivalents.
Through asset allocation, you can strike a balance between risk and reward by spreading money across products with different levels of risk and growth potential.
To make things simple, some investors follow popular asset allocation models. One example is the 60/40 method of allocating 60% in stocks and 40% in bonds.
Before following such models, make sure they’re a good fit for you given your risk tolerance and goals.
- Sectors and industries
Companies in different industries or sectors tend to perform differently under various economic conditions.
When the economy is doing well, people typically have more money to spend on non-essentials like travel, entertainment, and luxury goods.
When times are tough, people may cut out luxuries, but they’d still need to spend on necessities like food, power, and healthcare.
By diversifying across businesses in different sectors, you may benefit from the strengths of each one while also protecting against their weaknesses.
- Geographic locations
Economic conditions can vary by region and by country. Additionally, there are certain investment products that are only available abroad.
Investing in global markets not only allows you to address country-specific risks but also lets you explore opportunities that aren’t available locally.
3. Consider pooled funds
With a lot of strategies and asset types out there, you may be under the impression that it takes a lot of effort and money to be properly diversified.
Investing in pooled funds like Unit Investment Trust Funds (UITFs) can make it easier for you to put money in different assets at once. Many funds are made up of different assets, and some even invest across various sectors and countries.
Keep in mind that some investment funds are focused on specific asset types, industries, or countries. Before investing, check what makes up an investment fund to know if it offers enough diversification.
4. Don’t overdo it
There can be such a thing as too many investments in a portfolio. As you invest in more products, you’ll likely need to pay more fees which can lower your actual returns.
Any risk reduction from each new addition may become too small to matter or even have a negative impact on your earning potential. Staying mindful of each investment’s costs and benefits can keep you from overdoing things.
5. Adjust as needed
Over time, some of your investments may perform better or worse than expected and fixed-income assets may reach maturity. To maintain a balanced portfolio, you might need to reinvest money or reallocate to other assets.
The ideal asset allocation approach also tends to change based on your age. When you’re nearing retirement, it becomes more important to reduce risk.
To do so, you might need to move a bigger portion of your money to “safer” investments from highly volatile ones.
By rebalancing, you’ll allow your portfolio to grow with you and meet your needs even as you go through life changes.
