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the importance of diversification in investing

The Importance of Diversification in Investing

Diversification in investing refers to investing across different asset classes, securities, industries, and companies. Financial advisors in Illinois would also sometimes suggest investing in other geographic locations. However, not many investors understand the importance of such economic diversification. In simple terms, it means not putting all your eggs in one basket, but why? Let’s find out!

Why Is Diversification in Investing Important?

When you invest in one asset class or industry, you expose yourself to higher financial risk. While the risks can never be eliminated for investors, diversifying your portfolio will help strengthen it and reduce the overall risks in the long run.

For example, investing in an import-export business in 2019 may have seemed like the best option available. However, if that’s the only sector you chose to invest all your savings in, you might have faced a higher downfall than other investors who decided to spread their investments across different sectors.

Diversification, however, should not be confused with promises of higher returns. You may notice that investing in one sector or asset class has proven more profitable for a current investor. However, diversifying your portfolio will prove more beneficial as the years unfold.

The idea is to invest in instruments that are negatively correlated or uncorrelated. An excellent example of negatively correlated investments is that of stocks and bonds. When stock prices rise, investors typically see a decline in bond yields. Additionally, stocks have more volatility, which means they decrease at a much higher rate than bonds- the same is valid for when stock prices are falling.

It is pertinent to mention, you can also invest in correlated instruments, given they don’t move parallel to one another.

How Can You Diversify Your Investments?

You can diversify your investments across different classes, types of instruments, and company shares. Typically, when it comes to investment strategy for bonds and stocks, financial advisors encourage new investors to invest more in stocks than bonds. Their suggestions are not based on the fact that bonds are less volatile but that stocks outperform long-term.

Investing in stocks and bonds is only one example. The following are some other ways of diversifying and strengthening your portfolio:

  • Investing across sectors and industries
  • Purchasing both big and small company shares
  • Purchasing different bond asset classes
  • Investing in companies at different stages of the lifecycle
  • Buying shares of companies in foreign countries
  • Investing in companies at different stages of the lifecycle
  • Investing in alternative classes, such as cryptocurrency, real estate, and commodities
  • Investing in mutual funds

Financial Advisors in Illinois

Now that you know that diversification in investing is used to reduce the volatility of an asset’s price movements and the risk associated with it, you can decide how and where to invest, depending on the current market trends. If you need the help of financial advisors in Illinois, contact Hagemann Wealth now!

*The information provided here is for general information only and should not be considered an individualized recommendation or personalized investment advice. The investment strategies mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision. All investing involves risk including loss of principal. No strategy assures success or protects against loss. There can be no guarantee that strategies promoted will be successful and no guarantee of positive results. There is no guarantee that a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.

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