Investment Tips - Diversify Your Portfolio?  

The benefits of diversifying one's portfolio are, of course, known to all. It helps align our investment portfolio with our financial-cum-risk profile. It protects us from any downside in one particular asset class.

As each one of has a unique financial-cum-risk profile, each one of us must

Build a suitable mix of investment across various assets classes viz. debt, equity, real-estate, gold etc.

Even among the broad asset class like debt or equity, there are sub-classes. One must diversify suitably across these sub-classes too. For example in debt one must invest suitably in Bank FD, NSC/KVP and PPF etc. Or in equity one has to diversify across large-cap, mid-cap, small-cap, sector-specific.

Going further, even within particular sub-class say large-cap equity, one has to choose a mix of individual stocks.

The overall approach is a top-down one i.e. starting from the broad allocation across asset classes, you move down to choosing individual investment options. (Also read - How to build your MF portfolio?)

We could invest separately in each of the individual option as per our desired allocation strategy. This approach gives us the total flexibility to choose what we want. We have full control over our financial decisions. But this approach

* can become a bit cumbersome
* requires one to have the time and the knowledge to identify and invest separately in individual opportunities. This is more particularly true of building and managing one's own equity portfolio, where things are more dynamic and risky as compared to debt
* a fairly large corpus is needed to achieve the desired diversification
* the transaction costs could work out to be high
* the tax efficiency is low

Mutual Funds offer some simplification and tax-efficiency, but this so far is limited to equity and debt. We may, however, shortly see real estate and gold funds too. Even within say debt all instruments are not included such as PPF, where we would still have to invest separately.

Further, Mutual Funds also offer different routes to achieving the desired diversification. (Also read - How to reduce risk while investing?)

The choice of route usually does not affect the overall returns, which is more a result of the ultimate choice of funds that we make under a particular route.

Answered by Om Prakash at 6:59 PM on November 12, 2008

There are two important reasons to diversify your investment portfolio:
To take maximum advantage of market conditions
To protect yourself against downturns


Taking advantage of different markets

Each of the traditional asset classes — stocks, bonds, and cash — tends to produce its strongest returns under different market conditions than the other asset classes do.

For example, stocks often shine when corporate earnings are strong and financial markets are expanding. Yet this same environment frequently has the opposite effect on bonds, so that they provide lower than average returns.

On the other hand, bond returns often rise in a period when stock values drop. That may happen when interest rates go up or when corporate earnings don't meet investor expectations. If you have some money in both stocks and bonds, you'll be in a position to benefit from owning the one that's up, while limiting your losses on the one that's down.

Protection against downturns

If your investments are narrowly focused — for example, if you own stock in just one company or stock in three companies in the same industry or area of the economy — the value of your portfolio can drop sharply if that company or industry provides disappointing returns. But if you own stocks of different-sized companies in different parts of the economy, even if some investments go down in value, others may remain stable or go up. In any case, different types of stocks are not as likely to lose value at the same rate or at the same time.

Answered by Vipan Thapar at 11:53 AM on November 11, 2008

Well Ramnath! Diversify your Portfolio - To maximize your returns, and manage your investment risk at the same time, you should not put all your eggs in one basket. Avoid placing more than 4%-6% of your investments in any one stock, including that of your own employer's. Real diversification means spreading your money across multiple asset categories including stocks, bonds, real estate as well as investing internationally.

We could invest separately in each of the individual option as per our desired allocation strategy. This approach gives us the total flexibility to choose what we want. We have full control over our financial decisions. But this approach

* can become a bit cumbersome
* requires one to have the time and the knowledge to identify and invest separately in individual opportunities. This is more particularly true of building and managing one's own equity portfolio, where things are more dynamic and risky as compared to debt
* a fairly large corpus is needed to achieve the desired diversification
* the transaction costs could work out to be high
* the tax efficiency is low

Mutual Funds offer some simplification and tax-efficiency, but this so far is limited to equity and debt. We may, however, shortly see real estate and gold funds too. Even within say debt all instruments are not included such as PPF, where we would still have to invest separately.

Further, Mutual Funds also offer different routes to achieving the desired diversification.

Answered by Hemant Kumar at 11:06 AM on November 11, 2008

Diversify your Portfolio - To maximize your returns, and manage your investment risk at the same time, you should not put all your eggs in one basket. Avoid placing more than 4%-6% of your investments in any one stock, including that of your own employer's. Real diversification means spreading your money across multiple asset categories including stocks, bonds, real estate as well as investing internationally.

We could invest separately in each of the individual option as per our desired allocation strategy. This approach gives us the total flexibility to choose what we want. We have full control over our financial decisions. But this approach

* can become a bit cumbersome
* requires one to have the time and the knowledge to identify and invest separately in individual opportunities. This is more particularly true of building and managing one's own equity portfolio, where things are more dynamic and risky as compared to debt
* a fairly large corpus is needed to achieve the desired diversification
* the transaction costs could work out to be high
* the tax efficiency is low

Mutual Funds offer some simplification and tax-efficiency, but this so far is limited to equity and debt. We may, however, shortly see real estate and gold funds too. Even within say debt all instruments are not included such as PPF, where we would still have to invest separately.

Further, Mutual Funds also offer different routes to achieving the desired diversification.

Answered by Nagendra at 8:45 AM on November 11, 2008

One useful method to use when investing is to hedge your bets a little - that is don't put all your financial eggs in one basket.

Generally it is a good idea to spread your investments across different companies and different sectors.

The reason for this is that if a sector collapses and you have all your money in that sector, you could lose a great deal.

If you spread the money out between different sectors, then imbalances between sectors should level out - unless of course the entire market crashes.

It is generally safer to spread out across sectors and ideally as many as you can.

Answered by Seema at 4:31 AM on November 11, 2008