It aims to maximize returns by investing in different areas that would each react differently to the same event. Most investment professionals agree that, although it does not guarantee against loss, diversification is the most important component of reaching long-range financial goals while minimizing risk.
Diversification ensures that by not "putting all your eggs in one basket," you will not be creating an unwanted risk to your capital. Diversifying your stock portfolio is important because it keeps any part of your investment assets from being too heavily weighted toward one company or sector.
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.
Diversification has a number of benefits for you as an investor, but one of the largest is that it can actually improve your potential returns and stabilize your results. By owning multiple assets that perform differently, you reduce the overall risk of your portfolio, so that no single investment can hurt you.
The key to diversification is that it helps reduce price volatility and risk, which can be achieved by owning as few as 20 stocks, research shows. ... Owning more stocks than necessary can take away the impact of large stock gains and limit your upside.
To build a diversified portfolio, you should look for investments—stocks, bonds, cash, or others—whose returns haven't historically moved in the same direction and to the same degree. ... For example, you may not want one stock to make up more than 5% of your stock portfolio.
It aims to maximize returns by investing in different areas that would each react differently to the same event. Most investment professionals agree that, although it does not guarantee against loss, diversification is the most important component of reaching long-range financial goals while minimizing risk.
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.
How to Build a Stock Portfolio
How much of your portfolio should be in one stock? For any investor, it is safe to say that no single stock should be more than 5-6% of the entire portfolio, as suggested by Seth Klarman, a successful investor and author. This is Rule No 1 of stock investment.
KISS RULE OF INVESTING•KEEP IT SIMPLE, STUPID/SILLY! NEVER INVEST PURELY FOR TAX SAVINGS. NEVER INVEST USING BORROWED MONEY. DIVERSIFICATION•DIVERSIFICATION MEANS TO SPREAD AROUND.
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.
Advantages and Disadvantages of a Diversified Portfolio
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