Diversification is an investment strategy that ensures a solid distribution of opportunities and risks. When a stock yields high returns, investors are often annoyed that they did not invest more capital. As tempting as it may seem to put all one's eggs in one basket in the case of success, in the opposite case this strategy can prove disastrous. Sharp losses or even a total loss of the savings can be the result. Clever investors therefore use diversification as an investment strategy and spread their capital over various forms of investment.
The basic principle of diversification
Experienced investors spread their money over various forms of investment in order to spread the risks and reduce the probability of large losses. This diversification can be achieved by investing in
different industries,
different regions and
different asset classes.
It is favorable to choose investments that have little correlation with each other, that is, that hardly move in unison. On the other hand, it makes little sense to invest in different companies in the same industry. For example, as tempting as the shares of different car manufacturers may seem - if sales of new cars slump, the share price of the entire portfolio falls. It is more favorable to invest in shares of an automobile manufacturer, for example, and at the same time include pharmaceutical stocks in one's portfolio, for example. Simultaneous losses can probably be avoided in this way. In addition, it makes sense to diversify one's investments regionally. If investments are made predominantly in one country, the dependency on the economic development of the respective country is high. It is better to invest in different countries in order to counteract the risk of a loss due to economic fluctuations. Care should be taken to invest in both industrialized countries and less developed emerging markets. Their economic development is often characterized by high volatility. In terms of asset classes, the idea is not to invest all your assets in one asset class. Shares, for example, may be particularly promising, but it makes little sense to put the entire investment amount into shares, as there is a risk of very large losses in the event of a stock market crash. It is smarter to spread the capital over various asset classes and alternative investments.
Investments should always be spread across different markets in login exness, regions and countries. At the same time, it makes sense not to focus on stocks alone, but to combine different asset classes.
Calculating and balancing risks
Another advantage of diversification is the ability to manage and distribute risks in a targeted manner. Investments with high potential returns usually also entail a high risk for the investor. Depending on the type of investment, the total loss of the capital invested cannot be ruled out. Safe investments, on the other hand, are less attractive because of the low returns. On the other hand, they can usually guarantee at least the repayment of the capital invested and often also a low minimum return. With diversification as an investment strategy, you distribute your money between safe and particularly high-opportunity or high-risk investments. Which distribution you choose depends on your individual risk tolerance.
Diversification involves mixing safe investments and high-risk investments with high potential returns in order to optimize risks and potential returns. A sensibly planned diversification of bonds and equities drastically reduces risk. Although the return falls to the average value of the two asset classes, the losses can be considered small compared to the higher security.
