If you want to be successful as an investor, there's one key thing that you need to do: Diversify. Unfortunately, a surprising number of Americans haven't fulfilled this basic goal yet.
In fact, according to a survey from Principal, just 50% of all Americans indicate they've diversified their investments since the Great Recession or in preparation for market volatility.
That surprising number shows about half of all investors are taking on a huge and unnecessary risk that could be very costly -- especially during the 2020 recession and any market downturns that go along with it.
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Why is diversification so important?
Diversification is the process of buying a mix of different kinds of investments, so you aren't betting all you've got on a particular one performing well.
Diversification provides a few key advantages when you invest:
- It helps you reduce risk: If you invest most or all of your money in one company, or even one asset class, the success of your wealth-building efforts hinges on that one investment performing well. You're taking a huge chance that nothing will go wrong with it. But if you buy a mix of different kinds of assets, the chances of them all doing poorly are much smaller.
- It enables you to put some money in riskier investments: Investments that carry a higher risk also typically come with higher potential returns. If you aren't ever willing to take any risk, you won't have the chance to earn those returns. When you diversify, you can put some money in safer investments that are all but guaranteed to produce a positive ROI, so you can afford to also put some into less certain investments that offer the chance of a bigger payoff.
If you aren't taking advantage of the benefits diversification provides, chances are good you're taking on too much risk, limiting your potential returns, or both.
How to diversify your portfolio
Diversification can be easy.
First, you want to invest some money in different asset classes, including equities, bonds, real estate, commodities, and cash. That way, if the stock market tanks or the real estate bubble bursts, you'll have exposure to other kinds of investments that might do better.
For your equity investments, you'll also want to buy different kinds of stocks rather than sticking with purchasing shares of all one company or even one kind of company. For example, you might want to buy some stocks in large U.S. companies, some stocks in small ones, and some stocks in companies in emerging markets. You may also want to buy some tech stocks, some energy stocks, some consumer goods stocks, and so on.
You can build a diversified portfolio quickly and easily by buying a few index funds (there are some model portfolios to help you). Or you can select individual stocks with a mind toward what's already in your portfolio and make sure you don't end up with too much of your money too heavily concentrated in any one type of business.
Reduce your investment risk ASAP
Diversifying your portfolio doesn't have to be difficult, but it has to be done. If you want to significantly reduce the risk you face as an investor, start working today on investing in a mix of different assets so you can build a well-balanced portfolio that's likely to perform well in any market conditions.
