Diversifying your investment portfolio is a crucial strategy to reduce risk and enhance your overall returns among other benefits. You definitely don’t want one or two assets to tank your whole portfolio.
The most common approach is to spread your investments across different asset classes, industries, and geographic regions, but there are a couple other techniques that lead to more diversified holdings.
Below are 9 useful strategies to effectively create diversification in your investment portfolio.
How To Diversify Your Portfolio
#1 Disburse Across Various Assets Classes
Allocate your investment capital across various asset classes so that the proportions line up with your financial goals and risk tolerance.
If this is done properly, you’ll have the right balance of performance and risk mitigation. Here’s an example allocation so you can see what this looks like. Just remember that everyone’s allocation is going to be different.
#2 Buy Stocks Across Different Industries and Sectors
Within the equity portion of your portfolio, spread your investments across different industries and sectors.
Also consider diversifying your investments across large-cap, mid-cap, and small-cap stocks. I love small and mid-caps.
#3 Buy Bonds With Varying Aspects
Diversify your bond holdings by investing in bonds with varying maturities, credit qualities, and issuers.
Government bonds, corporate bonds, municipal bonds, and international bonds can each provide diversification benefits.
#4 Gain International Exposure
There are opportunities to invest internationally in each asset class. Investing in international markets reduces reliance on the performance of your domestic economy.
Investing in foreign stocks and bonds can help you benefit from global growth opportunities. It can also mitigate risk if one market is going through economic struggles.
#5 Incorporate Real Estate
Real estate is a great area to diversify your portfolio with. You can either invest in REITs or direct real estate holdings if you prefer to have a tangible asset.
Real estate investments can provide diversification benefits and potential income through rental yields.
#6 Branch Out to Alternative Assets
Depending on your risk tolerance, you might want to consider adding alternative investments, such as BDCs, MLPs, commodities, hedge funds, or even private equity to further diversify your portfolio.
Some of these have options to purchase through exchanges, but not all of them. Each one is subject to it’s own unique behaviors and nuances. Owning assets outside of exchanges has both pros and cons.
#7 Use Dollar-Cost Averaging
By regularly investing a fixed amount of money at predetermined intervals, you avoid the risk of investing a lump sum at the wrong time.
Implementing a dollar-cost averaging strategy helps you buy more shares for less money which allows you to have more purchasing power to implement your asset allocation plans.
#8 Rebalance Your Portfolio
Periodically review your portfolio and rebalance it to maintain your desired asset allocation. Over time, some investments may outperform others, leading to imbalances.
When you rebalance, you bring your portfolio back into an ideal diversification.
#9 Implement Risk Management
Always make sure you understand the risks associated with each investment. Then use this information to balance higher-risk assets with more conservative ones based on your risk tolerance and financial goals.
To Sum Things Up
By implementing the above strategies, you’ll be well on your way to having a well diversified portfolio. If you keep up with it, you’ll be able to reap many rewards.
Remember that diversification does not guarantee profits or protect against losses in a declining market.
But it can help reduce the impact of significant downturns and improve the overall risk-to-reward ratio of your investment portfolio.
