When it comes to investing, one of the best decisions you can make is to diversify your investments across different asset classes. Leading investors have often looked to stocks, bonds, precious metals, or even forex to spread money and lower risk across their portfolios. However, it’s still important to ask: why is diversifying your investments considered an advantage?
The principal reason diversification of your investments can be an advantage is that it allows you to lower your investment risks. Investment poses many risks to consider, including market risk, interest rate risk, geographical risk, and even idiosyncratic risk.
These risks can many take different forms, including:
- Market risk: Crypto winter is causing the entire crypto market to crash, including Bitcoin and thousands of altcoins.
- Interest rate risk: Long-term Canadian bonds are being affected by rising inflation.
- Geographical risk: The current market is volatile, and the Russian stock market is collapsing due to the Russian invasion of Ukraine
- Idiosyncratic risk: Meme stocks are coming back down from artificial inflation, including Gamestop or Blackberry
In order to mitigate risks, wise investors such as Simon Kronenfeld are at the top of the financial market. When speaking about best-performing stocks, Simon knows how important it is to diversify a portfolio from a single asset, or even a single asset class.
Diversification is best considered through three specific avenues:
- Within asset classes
This could include comparing different companies and diversifying where these companies operate from. This will help limit market, geographical, and idiosyncratic risks across the same asset class.
- Across asset classes
If you are someone that loves to trade stocks, consider investing in other asset classes. Longer-term, more stable classes include precious metals, bonds, and indices. Meanwhile, shorter-term and more volatile commodities also provide their own unique opportunities.
- Diversify through investing styles
Finally, consider diversifying your style with value and growth stocks. In order to help balance this diversification, you can also add indices into your process for a longer-term stable option.
According to Robert Johnson, professor of finance at Creighton University:
“Traditionally, a diversified portfolio was characterized as simply a portfolio with both stocks and bonds, and the benchmark was a 60/40 mix of stocks and bonds [60% stocks]. Today, many investors consider other alternative investments as part of a diversified portfolio. These alternative investments include real estate, commodities, private equity, currencies and even cryptocurrencies.”
With proper diversification, your investments can:
- Obtain additional returns for the same risk compared to an undiversified portfolio.
- Obtain the same returns for less risk compared to an undiversified portfolio.
- Reduce volatility and fluctuations within your portfolio.
- Minimize portfolio drawdowns that you can see from undiversified portfolios.
Simon Kronenfeld is someone who understands the importance of diversifying your portfolio. With the help of his experience, he has learned how to craft an investment portfolio that can manage market instability and inflation, and even compete with market crashes. His expertise and intuition have allowed him to pursue a brighter investing future.