Question: I keep hearing and reading that I am supposed to be diversified in my investments. I feel dumb asking, but what does that even mean?
Answer: The dumbest question is the one you never ask, so thanks for asking!
Diversification is a risk reduction tool.
By their very nature, investments are risky. The value of any single investment can go down dramatically due to any number of circumstances. But when you spread that risk around by having different kinds of investments, your risk of losing money over the long term is greatly reduced. Not eliminated, but reduced.
I recommend you diversify your investments (or assets) themselves and also the types of accounts that contain those diversified investments.
Let’s look at the diversification of your assets.
Different types of assets tend to move up or down in different cycles. Blending the assets (and therefore the cycles) together can smooth out the ups and downs of your overall investment portfolio. The term “asset allocation” refers to a strategic proportional positioning of one’s investment assets over a number of investment types or classes.
Think of a recipe that calls for a variety of ingredients in varying proportions. The cook knows what those ingredients are. Everyone else just says, “Save me a piece!”
Stocks, bonds and cash are the most commonly used asset classes (ingredients).
So what is a stock? It is a security that represents ownership in a company. By owning a stock, you participate in the increase (or decrease) in value of the company as it is traded in the public market.
What makes a stock increase (or decrease) in value? The most fundamental reason is the earnings performance of the company issuing the stock — did they make money or not? But current events can have an impact. And so can the emotional outlook (optimistic or pessimistic) of the millions of individuals that make up what we call “the market.” Anyone familiar with markets knows emotional outlook (also known as sentiment) can change rapidly.
And what is a bond? It is a security that represents your having loaned a company, a government or a municipality a specific sum of money for a specific period of time. In return for the use of your money, the borrower pays you a stated rate of interest for the duration of the bond. At the end of the duration, your bond is redeemed and you get your money back.
Both stocks and bonds have myriad sub-categories depending on company size, performance, geographic location etc. There are other assets classes (such as real estate or currencies) that may also be used, depending on individual needs and preferences.
Designing and constructing a portfolio of various asset classes appropriate for you and your specific circumstances is only the first step.
Since both investment markets and investor circumstances constantly change, the practice of portfolio rebalancing is important. Asset classes will rise and fall at different times and in differing proportions. By regularly “re-balancing” to your original asset allocation, you avoid over concentration in areas that have recently outperformed and maintain the original balance of your portfolio.
Most investors will benefit from the services of a professional money manager and/or financial advisor to assist them in the overall portfolio design and asset allocation process.
Source -thetowntalk.com
Different types of assets tend to move up or down in different cycles. Blending the assets (and therefore the cycles) together can smooth out the ups and downs of your overall investment portfolio. The term “asset allocation” refers to a strategic proportional positioning of one’s investment assets over a number of investment types or classes.
Think of a recipe that calls for a variety of ingredients in varying proportions. The cook knows what those ingredients are. Everyone else just says, “Save me a piece!”
Stocks, bonds and cash are the most commonly used asset classes (ingredients).
So what is a stock? It is a security that represents ownership in a company. By owning a stock, you participate in the increase (or decrease) in value of the company as it is traded in the public market.
What makes a stock increase (or decrease) in value? The most fundamental reason is the earnings performance of the company issuing the stock — did they make money or not? But current events can have an impact. And so can the emotional outlook (optimistic or pessimistic) of the millions of individuals that make up what we call “the market.” Anyone familiar with markets knows emotional outlook (also known as sentiment) can change rapidly.
And what is a bond? It is a security that represents your having loaned a company, a government or a municipality a specific sum of money for a specific period of time. In return for the use of your money, the borrower pays you a stated rate of interest for the duration of the bond. At the end of the duration, your bond is redeemed and you get your money back.
Both stocks and bonds have myriad sub-categories depending on company size, performance, geographic location etc. There are other assets classes (such as real estate or currencies) that may also be used, depending on individual needs and preferences.
Designing and constructing a portfolio of various asset classes appropriate for you and your specific circumstances is only the first step.
Since both investment markets and investor circumstances constantly change, the practice of portfolio rebalancing is important. Asset classes will rise and fall at different times and in differing proportions. By regularly “re-balancing” to your original asset allocation, you avoid over concentration in areas that have recently outperformed and maintain the original balance of your portfolio.
Most investors will benefit from the services of a professional money manager and/or financial advisor to assist them in the overall portfolio design and asset allocation process.
Source -thetowntalk.com
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