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Types of Diversification for Your Portfolio

Diversification is great loss prevention. You know that, but you know all the different types of diversification for your portfolio?

By Cato ConroyPublished 6 years ago 5 min read

Everyone and their grandma knows that keeping your stock portfolios diversified is great. It was even featured in a Chappelle Show skit involving the Wu-Tang Clan as financial advisors. By not betting on a single stock making all your returns, you reduce the change of loss and also help keep your peace of mind during times of economic downturn.

As common knowledge as this is, most people do not know the inner details of how professionals diversify your portfolio—and they absolutely should. If you're not "in the know," you could be hurting your personal finances without even being aware of it.

If you want to make the most of your investments, you should check out these types of diversification for your portfolio.

Why choose different types of diversification for your portfolio?

Before we start, we should probably emphasize the importance of diversifying your portfolio a number of different ways. Common sense tells us that we should never put all our eggs in one basket.

Diversifying your portfolio helps reduce risk, and by using a variety of different methods, you will be able to increase your ability to survive market downturns and improve your overall risk tolerance.

In other words, diversifying in a wide variety of ways can save your butt should shit hit the fan.

What happens when you don't diversify?

One thing people need to remember is that companies can and do go under. Most of us, as workers, know the signs when a company is about to go under. With investments, it's possible to lose everything because the company you invested in fails.

By diversifying, you prevent having a total loss. It's just that simple.

Caveat Emptor (Let the Buyer Beware!)

Though diversification is important, it's crucial to remember that all investments are risky. Diversification is important, but what's more important is to do your due diligence. Do your research!

You need to make sure that the investments you make are quality ones. Otherwise, all the variety in the world won't save you from loss. Assuming you're proactive about due diligence, the types of diversification for your portfolio that you use will only add to your profit.

Back in the olden days, most people really didn't know anything about how to decrease loss. One of the oldest types of diversification for your portfolio had its roots in the 1950s, when there were no real stock market investment alternatives or ETFs to invest in. All the investments you could buy on exchanges were individual company stocks.

During this time, Harry Markowitz proved investing in more stocks will statistically reduce losses across the board. Individual Company Diversification happens when you invest in a wide range of different individual company stocks, most often in the same industry.

If you're using a trading app that sells full shares like Robinhood, the easiest way to give this form of diversification a try is to buy individual shares of companies you like.

Industry Diversification

Industry Diversification is one of the more strategic types of diversification for your portfolio, and like Individual Company Diversification, sticks mostly to the stock market.

With this method, you stop focusing on a single industry and spread your investments throughout a wider range. So, while you might have started out with a portfolio filled with energy industry stocks, this method would also have you investing in food companies as well as some tech stocks.

Most people tend to invest very heavily in the industry that they are part of. The problem is that this method could leave you out of a paycheck and a portfolio if things turn sour. So, you might want to avoid doing that and diversify your investments.

Asset Class Diversification is one of the types of diversification for your portfolio that keeps you a bit safer from stock market crashes. When brokers talk about "asset classes," they are talking about types of investments—like stocks, bonds, commodities, real estate and mutual funds.

Different kinds of assets will perform differently, and that's a huge perk. During times of economic boom, stocks, commodities, and ETFs will rule. However, during bear markets, you will be very thankful that you invested in bonds.

Apps like Stash offer ETFs and stocks, giving you a good taste of Asset Class Diversification. A little of each makes your portfolio safe.

Strategy Diversification

As financial professionals started tinkering with the stock market, the strategies they used got increasingly intricate. The cool thing about using investment strategies is that you don't have to stick to just one.

That's where strategy diversification comes into play. Though we often think we know what will win and lose in the market, the strategies we prefer can fail. That's why Strategy Diversification is one of the more important types of diversification for your portfolio.

To do this, just split the strategies you use with your investments. For example, if you had a bunch stocks worth $500 and you weren't sure whether you wanted to sell it, keep $250 and sell the rest.

This is one of the few types of diversification for your portfolio that can help you avoid the full impact of a national market slump. This is crucial, considering that Trump has decided to engage in a trade war with China.

Geographic Diversification is the act of investing in overseas companies as a way to avoid having your portfolio fully tied to the goings-ons in your home country.

You don't have to be an investing guru to do Geographic Diversification. Apps like iBillionaire, for example, have ETFs based on a number of different countries, including Brazil and China.

Time Diversification

You might have heard of this called "dollar-cost averaging," and it's one of the most heavily suggested types of diversification for your portfolio. Time Diversification means that you regularly buy stocks, even when times are tough.

The idea behind this diversification is that buying frequently averages out the losses that are incurred due to market fluctuations. More specifically, this diversification is good for unlucky market entry and encouraging good behavior in new investors.

If you're just starting to invest in the stock market, this is a good move. It's one of the easiest routes to profitable long-term investment in the stock market out there.

Now go forth and diversify!

If you want to see your investments grow, you now have all the tools you need to make it happen. By knowing the types of diversification for your portfolio, you have a better grip on how to invest wisely—and how to avoid losing it all.


About the Creator

Cato Conroy

Cato Conroy is a Manhattan-based writer who yearns for a better world. He loves to write about politics, news reports, and interesting innovations that will impact the way we live.

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