Diversification is an approach to investing that involves allocating funds to investments that fall within different investment categories. Your funds may be invested across different industries across different areas of the global economy.
Why is diversification important?
The key goal of diversification is to maximise the potential returns of your investment portfolio. The various categories of investment will react in different ways to the same financial event. So by prioritising the diversification of your portfolio, this approach seeks to increase your returns and protect your overall investment portfolio against fluctuations.
As with all investments, there will always be an element of risk, without which your portfolio funds would be unable to grow. However, diversification plays a key role in making the most of your portfolio’s potential for growth in the longer term while protecting your funds from the impacts of any financial events that may occur within the global economy.
How does diversification work?
Some types of risk can be mitigated by the diversification of an investment portfolio, while other types of risk are systemic and cannot be managed through diversification. In some ways, this approach can seem complicated and there are expenses incurred, however, most finance professionals agree that it is a key tool for investors to achieve their investment goals. As with any approach that manages the potential risk to investments, the potential reward is also brought within certain parameters. As with all investment portfolios, decisions must be made by the investor with regards to the amount of risk they are able to tolerate with regards to their financial situation.
The key takeaway
Diversification can play a key role in the management of investment risk and decrease the potential volatility of investment values. As important as this tool is, some systemic types of risk cannot be managed in this way and there will always be some element of investment risk. The goal for your investment portfolio is to achieve a balance between the return you wish to see on your investments and the level of risk you are able to tolerate.
Please get in touch with our team today to discuss more about your portfolio diversification.