To achieve a diversified portfolio, look for asset classes that have low or negative correlations so that if one moves down the other tends to counteract it. ETFs and mutual funds are easy ways to select asset classes that will diversify your portfolio but one must be aware of hidden costs and trading commissions.
Diversification is the practice of spreading your investments around so that your exposure to any one type of asset is limited. This practice is designed to help reduce the volatility of your portfolio over time. ... One way to balance risk and reward in your investment portfolio is to diversify your assets.
Equities, fixed income (bonds), and cash are asset classes. And you can invest in those asset classes via individual securities such as stocks and bonds, or via funds such as ETFs or mutual funds. For cash you can have a deposit or money market account, a CD, or a money market mutual fund, etc.
A typical diversified portfolio has a mixture of stocks, fixed income, and commodities. Diversification works because these assets react differently to the same economic event.
Typically, balanced portfolios are divided between stocks and bonds, either equally or tilted to 60% stocks and 40% bonds. Balanced portfolios may also maintain a small cash or money market component for liquidity purposes.
A good investment portfolio generally includes a range of blue chip and potential growth stocks, as well as other investments like bonds, index funds and bank accounts.
A diversified portfolio should have a broad mix of investments. For years, many financial advisors recommended building a 60/40 portfolio, allocating 60% of capital to stocks and 40% to fixed-income investments such as bonds. Meanwhile, others have argued for more stock exposure, especially for younger investors.
While there is no "perfect" portfolio size, the generally agreed upon number is 20 to 30 stocks. When managing your portfolio, it's important to consider a diversification strategy that mixes a variety of investments spread across asset classes and industries.
To rebalance, you simply make the appropriate trades to return your mutual funds back to their target allocations. For example, returning to our 5 fund portfolio example, you would buy and sell shares of the appropriate funds to get back to the original 20% allocation for each fund.
How to diversify your portfolio
Diversification and Mutual Fund Types
If you are like most investors and have a moderate to low tolerance for risk, it is best to hold at least three or four mutual funds with different styles and objectives.
Aggressive portfolios typically include more stocks than moderate and conservative portfolios, so they tend to produce greater volatility than other types of portfolios that hold lots of fixed investments like bonds.
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