Are You Diversified Enough?

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  • 05 Feb 2023
Are You Diversified Enough?

Many investors focus their portfolio on a single asset class, either wealth creation or safety. However, this investment strategy is not advisable as successful investing requires a well-diversified portfolio. This brings up an important question, are you diversified enough?

Diversification is the technique of allocating investments across different financial instruments and categories. It aims to maximise the returns on your portfolio by spreading your investments over distinct areas that react dissimilarly to the same single event. Markets are unpredictable and volatile, and diversification reduces your downside risk by spreading your capital across various assets. and helps accomplish far-reaching goals.

There are two primary investment categories—stocks and bonds. Stocks are considered high-risk with high returns. Bonds are considered more stable, but they offer lower returns. This includes mutual fund investment in these categories. The key is to balance the proportion of these categories in your portfolio to find a balance between guarantee and risk.

There are several methods of diversifying your portfolio; here are some you can use:

  • Spread across various asset classes:

Experts suggest that one way to allocate and distribute your investments is to invest in the equity market as per a thumb rule of 100 - age. So, for example, a 40-year-old should allocate a minimum of 60% of their portfolio to equity as an asset class, which could be an appropriate mix of stocks, mutual funds, ESOPs, etc. The remaining 40% could be allocated to investments in bonds or fixed-income instruments, such as fixed deposits or debt mutual funds, as well as an emergency fund in liquid investment or cash. By spreading your investments, your total portfolio will not be overly exposed to any specific asset category and diversify across asset classes. This, in turn, ensures that if an asset class performs poorly due to market conditions, your portfolio will not suffer a major blow.

  • Diversify within asset classes:

You could diversify within the asset classes. For example, within equity or stock investments, you could have some portion of your portfolio invested in equity mutual funds, some in the direct stocks, and some in Exchange Traded Funds (ETFs).
You could allocate a portion to debt mutual funds for the remaining fixed-income investments, another portion to fixed deposits, and another to bonds. It is a good idea to have some exposure to gold, either physical gold or gold ETFs. Gold is a good asset during inflation, as it does well when the market is poor.

  • Across investment styles:

It may be a good idea to diversify across investment styles to get the most out of your investment portfolio. Fund houses have differing investment styles, so take advantage of the management approach and perspective differences.

  • Across locations:

Another way to diversify is to consider global exposure. This strategy helps compensate for the volatility experienced by a single economic region.

How diversified are you?

Please look at your portfolio to check how diversified it is, and do this regularly. Even a well-diversified portfolio requires rebalancing once in a while. Diversify your investments today and give your portfolio the best chance to reach its maximum potential.

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