What would happen if you had all your money in real estate and the real estate market collapsed? Sounds familiar right? During the Great Recession of 2008 in the U.S. this is exactly what happened with real estate values going down by a staggering 30% plus!
Most top investment advisors will recommend that you diversify your investments to protect you from losing everything. Diversification means that you put your money into several different types of investments that are unlikely to all move in the same direction. For example, you might spread your money across stocks, bonds, and real estate. When the value of one investment goes down, one of the others might go up, so you either have better returns or reduce your overall losses.
Diversification can be an important step towards developing a successful investment formula and a winning portfolio. Your team of investment advisors can help you make qualified diversification decisions. You should consult with them about how best to spread your money around to reach your long- term goals.
In his latest book “Unshakeable”, Tony Robbins talks about four different types of diversification:
- Diversification BETWEEN different asset classes; i.e. real estate and shares. When you allocate assets into different asset classes such as shares, real estate, cash, bonds, etc you balance risk and potential rewards.
- Diversification WITHIN an asset. For example, real estate can be diversified between owning residential and business properties or investments in shares can be diversified between large established companies and small start-ups.
- Diversification ACROSS industries, countries and currencies around the world. When you allocate your shares portfolio across different industry sectors you will be able to monitor and balance the impact of each industry sector on your portfolio. Also, spreading your equities across different countries and currencies, contributes to risk balancing and potential maximization of returns.
- Diversification ACROSS time; just keep adding to your investments systematically over the years and you will increase your returns while reducing your risk. This is called Dollar Cost Averaging and it is an investment technique through which you buy a fixed dollar (or other currency) amount of a particular share on a regular basis, regardless of the share price. The goal of this method is to reduce the impact of volatility on large purchases of shares and protect the investor against market fluctuations.
There is no generic diversification model which can be a perfect fit for every investor. Each investor has different characteristics which should be taken into account when forming a diversification strategy. These characteristics include the investor’s financial goals, time horizon, risk tolerance, investment expertise, need for liquidity, etc. For example, a mature athlete’s investment horizon may be 5 or 10 years whereas a rookie athlete’s time horizon may be 20 or 30 years. Also, a mature athlete is naturally less of a risk taker given that his investment time horizon is limited. So, diversification is not a one-fit-for-all strategy, nor a one-time task. A proper diversification strategy should always align with your particular circumstances and characteristics; it should be continuously monitored and periodically adapted to make sure that it continues to make sense.
So remember: A proper and flexible diversification strategy, periodically adapted to your changing needs, is key in building a successful investment portfolio and ultimately achieving financial freedom!
