The word diversification crops up in many contexts. You might hear a business person talk about diversifying revenue streams, or a footy fan mention a team’s need to assemble a group of players with diverse skills.
In a variety of arenas, people agree that diversification can improve chances for success. Investors are no different. In a recent survey of nearly 2,000 self-managed super fund investors, about 76 per cent agreed that it is important for their SMSFs to be diversified across different investment types. Yet only 39 per cent say their portfolio is very well or well-diversified.*
That’s not especially surprising. Closing the gap between theory and reality is always a challenge. Just as it’s easy to promise yourself to eat healthily but still sit down to steak, chips and ice cream too often, it’s easy to agree on the wisdom of diversification but not be certain that your portfolio achieves that goal.
Diversification protects against the risk that a share, bond or asset class will fall in value and generate losses that will prove difficult to recover from. Today’s soaring tech share could be tomorrow’s bankruptcy. By expanding the number and type of shares and bonds you own, you increase the odds that parts of your portfolio will hold their value when others fall.
A diversified portfolio is divided among asset classes such as shares, bonds and cash to achieve investors’ required returns within the limits of their risk tolerance. This formula will vary depending on an individual investor’s age, risk tolerance, time horizon and goals.
As you examine your investments, keep these diversification concepts in mind:
*2019 Vanguard/Investment Trends SMSF Report
**Vanguard Portfolio Construction for Taxable Investors
Written by Robin Bowerman
Head of Corporate Affairs at Vanguard.
13 August 2019