Building a diversified investment portfolio is often a daunting task. The market has many investment options to choose from, but you have limited capital and sometimes knowledge. However, as an investor, you need to diversify your portfolio to be safe from any market eventuality, such as negative market performance. Here are some key tips to show you how to build and maintain a diversified investment portfolio if possible a unique blend.
What Is Investment Diversification?
Portfolio diversification is spreading investment risk across various investments or asset types. Investment diversification aims to spread risk and protect yourself against one negative investment performance while gaining from the other. You do this by building a robust investment portfolio across different niches to weather different market situations.
Ways to Build a Diversified Investment Portfolio
Here are three ways to build a diversified portfolio:
1. Diversify Your Portfolio in Breadth and Depth
Traditionally, you can diversify your portfolio in two ways:
- Breadth: Across different investment or asset types (such as cash, stocks, and bonds)
- Depth: Within each particular investment asset type (such as different stocks, bonds, or cryptocurrencies).
Remember, traditional diversification is usually about broad asset classes such as stocks vs. bonds. To be different, you should also focus on the depth. For example, if you realize that you’re more invested in stocks, consider the depth of your stock. You can diversify your stock portfolio into different market segments, such as:
- Small-cap stocks
- Large-cap U.S. stocks
- International stocks
- And more
You want to do this because you can’t predict the short-term (one year or less) more accurately. Long-term predictions might also be affected by other factors like politics and economics. In the longer term, it’s hard to know which investments (asset classes) will be laggards and which will be leaders. Diversifying can help you benefit on both sides.
2. International Market Diversification
In investment, you want something lucrative and long-term. However, these investments may sometimes not be in your country or region. An example of such an investment is a cryptocurrency. Whether you choose Litecoin or Bitcoin, go for a stablecoin with high RIO potential. You can convert the coins to USD (LTC to USD) to understand their costs and returns.
You have to look abroad or go multinational. If the markets in your country were to perform negatively or poorly, your multinational investments will help you mitigate risk and help balance your portfolio. Remember, other countries’ markets may have different market or investment processes, rules, and regulations. Watch out to avoid contradicting the law.
3. Use Risk-Based Investment Diversification
While markets are known to move in cycles, they can easily surprise you. A diversified portfolio can smoothen the ride. Start by measuring a portfolio or asset’s risk based on its expected return. For instance, you can use the asset’s standard deviation to reveal the investment’s historical volatility.
For instance, a volatile stock’s standard deviation (S.D.) is usually high, while that of a blue-chip stock is often low. How does this affect your portfolio? It varies based on what you’re investing in.
Suppose your portfolio is expected to return 10% in a certain year, with a 5% S.D. This means two-thirds of the time, the portfolio’s actual returns will fall between 10% plus or minus 5%. This will show you whether the portfolio will deliver or not.
A diversified portfolio will help spread your investments across different classes or types, such as bonds, stocks, cryptocurrencies, and cash. Follow the above steps to help reduce risk and maximize your return on investment to achieve your financial goals.