Today, about 8 in 10 Americans are in debt. Many find themselves carrying debt into retirement as well.
If you’re looking to pursue financial abundance instead, then you’d do well to learn about investment diversification.
What is it and why does it matter? Read on to explore more about this method and how you can use it to increase your net worth today.
What Is Investment Diversification?
Another term for diversification is asset allocation. This is how much you invest into different asset classes.
Investment diversification is simply having your investment dollars spread across multiple assets. Doing this usually, although not always, reduces your investment risk.
Unsurprisingly, there are different investment strategies out there such as the Stanley Druckenmiller investment strategy.
Druckenmiller’s theory can summed up by this quote from Andrew Carnegie, which Druckenmiller cites on a regular basis: Put all your eggs in one basket and watch the basket very carefully.
Similarly, Warren Buffett has famously shared he is against diversification, saying “Diversification is a protection against ignorance. It makes very little sense for those who know what they’re doing.”
In the past, Buffett has allocated as much as 40% of his portfolio to a single stock. However, with an astonishing net worth of $105 billion today, he has been forced to diversify to a greater degree than in the past.
Despite these overarching beliefs, both Druckenmiller and Buffet diversify when multiple opportunities present themselves with the potential for a big payoff. Also, other skilled investors frequently diversify to a greater degree than these greats.
Common methods they use include to diversify beyond asset class, within asset classes, or by the asset class.
Why Diversify?
In theory, spreading your investments across a few different investments can decrease your risk. Ideally, you’ll have control over a few assets whose performance is not related to each other.
Potential investment types can include bonds, stocks, commodities, real estate, cash, cryptocurrencies, gold, or silver, for example.
You can choose different areas around the world to invest as well.
While proper planning is necessary, there’s no guarantee of what the future will bring. That’s why diversification can offer protection for your assets.
You can also perform an investment diversification strategy by age as well. Usually this means shifting your asset allocation from higher risk investments to lower risk investments as you age.
Identify Your Risk
Generally, cash alternatives are the safest option but their returns are the lowest. In contrast, stocks have higher risk but offer higher returns. Bonds are in the middle where you get moderate risk and moderate gains.
Of course, you can also invest in a diverse range of other asset types with varying risk and reward profiles.
And finally, while you want to diversify, avoid over-diversification. Over-diversification makes it difficult to manage your portfolio and it isn’t necessary for optimal returns. It can also cause you to incur unnecessary transactional fees.
The Role of Investment Diversification
Now that you’ve read this guide on investment diversification, seek out an advisor or a mentor who can help you come up with the right portfolio for your needs.
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