Why Diversifying A Investment Portfolio Is Important

We believe diversification is essential for any investment portfolio. Usually, with a diversified spread of investments, the impact of picking the wrong asset type, the wrong sector or the wrong region at the wrong time can be minimised. Choosing a number of asset classes (see below) instead of just one or two significantly reduces risk.

The Major Asset Classes

The major asset classes are equities (stocks and shares), bonds, property, cash and commodities (e.g. Oil). Each asset class carries more or less risk and potentially higher (or lower) returns. For example holding cash carries very low risk but the growth on cash investments is minimal and carries a inflation risk. In contrast, the investment growth on stocks and shares is generally higher than cash but so is the risk.

There are also high-risk investment options available that typically include non-mainstream pooled investments (NMPIs), Enterprise Investment Schemes (EIS) and Venture Capital Trusts (VCT) but these tend to be only suitable for the sophisticated investor with sufficient capacity for loss to enable them to speculate on higher returns.

Minimising Risk

This is particularly important for any investment intended to fund retirement. If an asset class does crash and investment is heavily weighted towards that asset class then the time and availability of financial resources (or income) to recover that loss will be limited.

All investments carry risk. While it is impossible to eliminate the risk entirely and still maintain an acceptable retirement income an appropriately diversified portfolio can ensure no one investment can cause too much damage in the event of a downward swing in its performance.

Maximising Return On Investment

Several research studies show it is extremely difficult to spot return on investment trends over the past 20 years. It’s pointless to try to predict which country, which company or which commodity in each market will be at the top next year, the year after or over the long term.

Many believe that the power of capital markets (investment in Governments or companies making long term investments) is the most important, long term driver of returns. However, there are risks that may be balanced with other assets in a diversified portfolio depending on the needs and objectives of the individual.

The purpose of this blog is to provide technical and generic guidance and should not be interpreted as a personal recommendation or advice.