Investing in the current economic situation is more like an entrepreneurial endeavor. While dipping your toes into the realm of entrepreneurship, it’s essential that you must consider how you’ll keep yourself afloat. Investing is no different. To remain successful in the investment world, diversification is crucial. A sound Investment Portfolio Diversification is your best defense against a financial crisis and can keep your assets growing.
Financial markets are always going to experience fluctuating levels of volatility at various times of the year based on consumer perceptions and confidence. Since a number of other factors can also affect market performance, including economic, legislative, and corporate factors, it can be difficult to determine which asset is right for an investor. This is where Investment Portfolio Diversification comes into play.
Bankers, financial planners, and wealth managers often remind their clients about the importance of diversifying their investments. Portfolio diversification is crucial for investing success. But what does Investment portfolio diversification mean, and how do you achieve it? Let’s find out.
What is meant by Investment Portfolio Diversification?
Investment Portfolio Diversification refers to a strategy of investing in various assets to earn the best possible return while reducing potential risks. It helps manage the risks associated with your investment portfolio through thoughtful and measured planning.
The term “Investment Portfolio Diversification” derives from a very simple concept that everyone is familiar with:
“Don’t Put All Your Eggs In The Same Basket”
A diversification strategy involves incorporating different types of assets into your investment portfolio. Diversification can lower the risk of your portfolio by ensuring that the performance of one asset or asset class does not affect the entire portfolio. A typical diversified investment portfolio is composed of Gold, Forex, Stocks, Crypto, Energies, Indices, and other Commodities. This type of diversification is advantageous because each asset reacts differently to the same economic events.
Despite your wish that all your positions will soar, there will be periods in which some of your holdings will lose money. If that happens, you must make other investments to compensate. Diversification reduces the risk of concentrated losses by spreading the risks across growth and defensive assets. Through diversification, you can avoid creating an unwanted risk to your capital by not putting all your eggs in one basket.
There are two ways to diversify an investment portfolio: Across asset classes and Within asset classes.
- When you invest across asset classes, you can spread your investment across several asset classes. Rather than only investing in stocks, you can also invest in bonds, real estate, etc.
- Diversifying your investments within an asset class means you make many investments within one particular asset type. If you were to buy stocks, you would choose many stocks from many different companies of various sizes and sectors rather than buying stock from a single company.
By creating an effective investment portfolio diversification within and across different asset classes, you can reduce your exposure to investment risks, while improving your overall portfolio performance and earning potential.
What is the Importance of Diversifying Your Investment Portfolio?
Diversification is a risk management strategy that aims to reduce risk and improve portfolio performance. If your investment portfolio is flexible enough to keep your investments balanced or sufficiently diversified to mitigate the risk of change, you will not only economically survive during a crisis but potentially flourish on your way to Financial Independence.
In the financial market, Investment Portfolio Diversification is often associated with Charles Darwin’s statement that says,
“It is not the strongest of the species that survive, it is the one that is most adaptable to change.”
This quote clearly implies that the investors who maintain a diversified and balanced Investment Portfolio are considered to be the Financial ‘Survival of the Fittest’.
By diversifying your investment portfolio properly across different asset classes, you can protect yourself from unsystematic risk (avoidable risk), control systematic risk (unavoidable risk), and ultimately create a portfolio that is likely to be more profitable and stable. Investment Portfolio Diversification also provides more regular returns on investment under various economic and market conditions.
If you're trading Forex or Crypto, it is wise to distribute your investments across many different Forex currency pairs, or even across different types of Crypto assets, so that the success of your investment portfolio isn't dependent on a single asset type. Since different asset classes and even different assets within the same asset class behave differently based on market conditions, if one investment in your portfolio is down, it doesn't necessarily mean the entire thing is down.
Furthermore, diversification allows you to combine assets of varying risk levels in your portfolio. A stock, for example, has historically produced higher returns than a bond or cash, but at the same time comes with more risk. Bonds, on the other hand, may not provide the same high returns as stocks historically have, however, they can help to hedge some of your portfolio’s risk during down years.
Investing in a diverse portfolio will spread out your risks in such a way that the performance of one investment may not correlate with the performance of your entire portfolio.
What makes up a Well-Diversified Investment Portfolio?
Certainly, there’s an endless list of investment options to choose from. In order to achieve a well-diversified investment portfolio, it’s crucial to include the best income-producing assets in the mix. A sound Investment Portfolio Diversification must include:
1. Forex – A Wealthy Future Investment
Forex stands for foreign exchange, also known as FX or currency trading. The FX market is a global marketplace that exchanges national currencies and ranks at the top among financial markets worldwide. That’s why investors from around the world gravitate towards it. The forex market is 25 times larger than the global stock market.
With its easy approach and advanced trading apps, forex trading is a great investment that needs to be incorporated into your diversified investment portfolio. Make sure you do your homework before you open a Forex account. Despite being very attractive and lucrative, it can also be risky. Remember that you can make more profits when you invest time and effort in learning what you’re trading.
Check 10 Things You Should Know Before You Open A Forex Account
Forex traders should diversify their trades rather than put all their money into one currency pair or trade. In highly volatile markets, diversification increases survival odds. Each currency pair corresponds to a different market, and the correlation between these markets provides ample scope for diversification.
2. Stocks – Important component of a well-diversified portfolio
Stocks are the main component of any investment portfolio. Buying stocks refers to owning a portion or share of a company. In other words, the owner of the stocks owns a part of the company. A shareholder’s ownership of a stake depends on how many shares he owns. As a company makes profits, it shares a portion of those profits with its stockholders through dividends. It is possible to sell shares later at a higher price than the initial purchase price, depending on the performance of the company.
Stocks, however, are considered riskier than other types of investments due to their volatility and ability to lose value very rapidly. The price of your stock may drop in the future, meaning that you may be able to sell your investment for less than you paid. This risk can also be beneficial. Over the long term, stocks can also offer investors higher growth, a feature that attracts investors.
Make sure your Stock investments are well diversified. There are several ways to accomplish this:
- Choose a mix of stocks of different industries
- Consider investing in companies of various sizes (large-cap, mid-cap, and small-cap)
- In order to maximize returns, it is best to invest in both domestic and international stocks
Even though stocks are among the riskiest investments, there are safer alternatives. It allows you to invest in a variety of businesses across diverse disciplines, giving you the opportunity to profit from any company that increases in value while maintaining an adequate cash flow.
3. Indices – A Promising Investment Opportunity for Beginners
Index investing makes an excellent investment choice for beginners to include in their Investment Portfolio Diversification. Not only is it easy to understand, but it is also easy to execute the investment.
An index fund is a mutual fund that aims to mimic the overall performance of a particular market. Since it is overseen by fund managers with a history of successfully managing investment portfolios, investing in it helps you unlock the power of compounding, as you have a long-term investment horizon.
There is a common misconception that people think they are diversified because they have a lot of funds. However, having more positions in your portfolio doesn’t imply you are. Good diversification provides different market segments that behave differently.
Imagine that you invest in a total market index fund and one S&P 500 index fund, thinking you are getting exposure to a variety of investments. Moringstar reports that 75% of the U.S. stock market is comprised of companies already listed on the S&P 500. Which means that you have invested in essentially the same companies twice instead of further diversifying your portfolio.
Just because you own a lot of mutual funds, stocks, or ETFs does not mean you are well-diversified. It’s crucial to have assets that behave differently from each other, whether inversely or completely independently.
Moreover, index investing is also an effective method of managing risk and gaining consistent returns. Since index funds are passive investments, they tend to have lower management fees and expense ratios (ERs) than actively managed funds. Furthermore, index funds tend to be less tax-efficient than active funds because they make fewer trades.
4. Gold – A Vital Asset for Every Investment Portfolio
Gold was considered the first currency in the world and has always been regarded as a safe investment vehicle during economic downturns.
Investing requires you to build your portfolio optimally to mitigate the impact of losses and be on the safe side. Gold can play a greater part in the Investment Portfolio Diversification since it is traditionally seen as a safe investment that performs well during times of geopolitical crisis or political instability.
Gold can be viewed as a classic inflation hedge since its price tends to rise during inflationary periods and in response to a rise in consumer prices. Unlike other assets, precious metals offer unique inflationary protection. They offer intrinsic value, do not carry credit risk and cannot be inflated.
Including gold in your investment portfolio diversification is possible in a variety of ways, including:
- Bullions: It is physical gold, usually in the form of bars or coins. Its value depends on its weight and type. It may seem that owning physical gold is the easiest way, but it requires transaction fees, storage fees, and insurance.
- Futures: These are contracts between buyer and seller for the purchase of a quantity of gold at a predetermined price.
- Certificates: These are documents that represent ownership of gold instead of storing it physically.
- ETFs: Exchange-traded funds, or ETFs, consist of assets backed by gold. They are similar to stocks.
- CFDs: Contracts for difference or CFDs are short-term orders to buy or sell a fixed amount of gold. Instead of buying physical gold, traders speculate on the price.
This shows that you can invest in precious metals like gold and silver in many ways, and there are many reasons why you should. The XAU/USD pair and XAG/USD are the most popular pairings AximTrade offer, making it easier than ever to incorporate gold and silver as part of your forex trading strategy.
5. Cryptocurrency – A Smart Option for Diversified Investment
The Cryptocurrency market has seen meteoric growth and made a profound impact on global financial markets in recent years. There are now over 5 thousand cryptocurrencies on the crypto market after Bitcoin, each with its own specifics and potential. So, if you are looking forward to diversifying your investment portfolio wisely, cryptocurrencies should be on your list without a doubt.
The quote “It is never too late” is now a well-suited phrase for people reconsidering their investment in cryptocurrencies. Although investing in crypto can be a volatile ride, by diversifying your portfolio, you can create an asset allocation plan that reflects the level of risk you are comfortable with, together with the potential gains you hope to achieve.
Popular ways to invest in crypto include Crypto CFDs and Crypto Assets, or coins.
- Crypto CFDs are attractive to traders who want to profit from price movements without dealing with the technical process of buying and storing cryptocurrencies. It is not necessary to have a cryptocurrency exchange account to trade crypto CFDs or to create a cryptocurrency wallet to store cryptocurrencies. Crypto CFDs also adhere to all financial regulations, so when you buy and sell them, you don’t have to worry about their legality.
- Unlike trading Crypto CFDs, trading Crypto Assets directly on crypto exchanges involves a technical understanding of cryptocurrency. Due to the decentralized nature of cryptocurrencies, they cannot be controlled by a central authority because they are digital currencies running on public blockchains. Traders are responsible for purchasing and storing cryptocurrency securely, which can be challenging for first-time buyers.
Read: Difference Between Crypto CFDs and Crypto Assets
You can also consider investing in different types of crypto, including so-called ‘stablecoins‘ like Tether, which are pegged to a fiat currency like the dollar, as their name implies they don’t fluctuate as much as coins, altcoins, and tokens.
While several ways exist to generate income with cryptocurrencies, crypto trading has been touted as the most profitable method due to its ability to leverage price fluctuations that yield quick returns. AximTrade offers a wide array of trading pairs to allow crypto traders to maximize their trading possibilities. Here’s a list of crypto trading pairs offered by AximTrade to help expand your Investment Portfolio Diversification.
6. Energies – Perfect Investment to Hedge Against Inflation
If you include oil investments in your portfolio, you have many ways to make money. Despite the rise of wind and solar technology, oil and gas remain the world’s primary sources of energy.
Crude & Brunt oil provides the majority of the world’s energy, making it a widely traded commodity. Due to high trading volumes and ongoing demand, it is one of the most liquid traded commodities, making spreads tighter and trends more steady.
CFDs provide traders with a way to speculate on oil prices without having to own physical barrels.
- Spot Oil Prices: Indicate the price at which oil can be bought or sold for immediate or on-the-spot transactions.
- Oil futures: are contracts for the purchase and sale of a set amount of oil at a set price on a set date. Prices of future contracts reflect the expected oil price on the expiry date of the contract. They are used to hedge against price increases.
- Oil Options: Similar to futures, options give traders the option of exchanging a predetermined amount of oil at a fixed price on a predetermined date without any obligation to do so. Traders who expect prices to rise choose call options. In contrast, when prices are expected to fall, a put option is set.
Investing in a commodity that is a vital part of our economy would be an excellent addition to your portfolio. The price of oil acts as a hedge against the drop in share prices of other companies. Oil investments also provide tax advantages. You are likely to benefit from high dividend yields since most of these oil companies have been around for a long time.
Diversify Your Investment Portfolio with AximTrade
We hope that now you have a better understanding of what types of assets can help you diversify your Investment Portfolio most effectively. Before venturing into the investment world, the first and foremost step is to ensure you understand the risks you are taking on. An investment should be carefully weighed against the pros and cons in relation to your investment objectives, financial goals, and level of risk tolerance.
To create a profitable Investment Portfolio diversification, you should look for a platform that allows you to do so. AximTrade stands out as the best broker in terms of its reliability and excellent trading conditions, offering Forex, Stocks, Crypto, Indices, Metals, and Energies, and facilitating in-depth market analysis using various tools accessible through the MT4 platform.
Traders who prefer flexibility and fast process registration consider AximTrade one of the best choices, as it allows traders to start with lower capital. As a result, the platform offers flexible leverage, low opening balance requirements, tight spreads, and effective payment methods so that it can serve all types of traders.
Enjoy a variety of trading bonuses on all account types with a minimum deposit starting from $1. AximTrade clients can diversify their portfolios by holding up to 15 active trading accounts. It is possible to manage up to 7 Standard Accounts, 2 Cent accounts, 5 ECN accounts, and 1 Infinite leverage account per Active Member Area.