A portfolio can be defined as a grouping of financial assets held by investors directly and/or additionally managed on their behalf by professionals in the relevant fields.
Diversification can be defined as a strategy combining various assets to minimize the overall risk associated with the whole portfolio. Risk can never be completely removed from an investment endeavour and as such the main aim of diversification is to reduce risk to the lowest level possible.
Assets can be stocks, bonds, commodities, currency and cash equivalents. For extra leveraging, the investor can include mutual, closed and exchange traded bonds.
Leveraging is the use of various instruments to increase potential return on an investment. This can magnify both profit and loss depending on the outcome of investment.
How to diversify
To begin the process, the investor has to first determine their financial position. This is so as to determine a number of variables included but not limited to;
- Sectors the investor is willing to invest in. This can be due to moral, emotional and logical reasons. The main aim of diversification is so as not to ‘put all of one’s eggs in one basket’.
- Levels of risk the investor is willing to expose themselves to. This ties in with the level of loss the investor can survive whilst staying afloat financially.
- The investor’s financial goals. These can be long or short term and should tie in with the reason for investment in the first place. Contrary to popular belief, stocks are not a get rich quick scheme and adding value is an endeavour that requires patience, planning and discipline.
Growth of a diversified portfolio is not dependent on one single investment avenue but rather determined by cumulative growth on all assets. This is the ‘you win some, you lose some’ principle and the end goal is to achieve overall positive growth on the portfolio as a whole
Diversification minimizes risk by working on the principle that different assets react differently to the same event. For example, a natural disaster may cause the price of oil related stocks to go up while causing the share price of firms physically affected by the disaster to plummet, thus investing in both means losses from one investment are mitigated by profits from the other investment.
Since this form of diversification relies heavily on prediction, it is very important to study the history of the stocks one chooses to invest in. This will enable an investor to make a prudent projection of future performance. It will also guide the investor on where and how much to invest so as to maximize overall portfolio performance.
The awareness of when to pull out or when to stay invested will also aid the investor to take advantage of the ‘buy low, sell high principle’. This means that stocks bought at a low price are to be sold once they appreciate and earn capital gains.
One very important factor in all of this is information. That will determine the prudence of investor decisions. In the stock market, information is KING. Knowing when to get in and when to stay invested is incredibly crucial and this means keeping an ear to the ground. Stock price is affected by everything from major geopolitical events to minor office kitchen gossip.
The other key factor is speed of action. The investor needs to be able to act on information gathered quickly as the stock market is highly volatile. Luckily, technology has made this easier with the likes of automated put and call options, online trading facilities and mobile applications that can assist the investor make snap decisions on the go. Websites such as MetaTrader and IQOption are just a few examples of tools that can help the investor get a better grasp on the stock market ins and outs. Real time stock value tracing is another vital tool that can help the investor take actions based on their predictions.
Strict discipline is also key here. The predetermined acceptable loss levels and re-investment practices need to be adhered to. Remember, a stock portfolio is a marathon and not a sprint! Some stocks are optimal under short term exposure while others are optimal for long term exposure. The investor must be able to make this distinction if the diversification efforts are to be successful. This demands the investor be able to separate emotions from logic. One must also be ready to make losses and persevere.
You should also consider contacting your local broker as well as your broker for international trading for more information. I wish you all the best.