Diversification

Don’t put all your eggs in one basket.

Diversification is one of the golden rules of investing. It’s a tried and true technique for reducing risk, by spreading your investment over a number of different assets.

It’s a good idea, because the value of different assets can rise and fall at different times. By diversifying, you reduce the likelihood of any single investment or asset reducing the value of your entire portfolio.

What can you diversify?

You can choose to diversify your investment choices (eg asset classes), and your investment managers (eg who looks after your investments).

1. Asset classes
The main types of assets are listed below. They are generally classified as either defensive assets or growth assets:

• Defensive assets – generally have lower returns over the longer term but are lower risk in the short term.
  Growth assets – generally have the potential for higher returns over the long term but a higher risk in the short term.

Before you diversify across asset classes, you need to understand what sort of investor you are and what sort of assets do you wish to invest in (ie growth assets, defensive assets or mixture of both). 

2. Fund managers
Always consider the fund manager’s investment style, or their approach to investing. Four of the most common styles are:

1. Indexed – the manager aims to match the performance of a specific index (numerical measure of the price movement in the market).
2. Value – the manager often buys shares in companies who are out of favour and whose price does not reflect the current value of that company.
3. Growth – the manager buys shares in companies whose potential for growth in sales and earnings is higher than average.
4. Quantitative – the manager buys shares that are relatively inexpensive.  If the shares appear expensive, they are sold.