~Most investment professionals agree that, although it does not guarantee against loss, diversification is the most important component of reaching long-range financial goals while minimizing risk.
Diversification is a technique that allocates investment dollars among different asset classes such as bonds, stocks and cash. In addition, one can diversify among their stock holdings by buying a combination of large, small or international stocks, and among their bond holdings by buying short-term and long-term bonds, government bonds, or high and low-quality bonds.
A diversification strategy reduces risk because stocks, bonds, and cash generally do not react identically in changing economic or market conditions. Diversification does not eliminate the risk of experiencing investment losses; however, by investing in a mix of these investments, investors may be able to protect their portfolios from major declines in any one investment. Over the long run, it is common for a more risky investment (such as stocks) to outperform a less risky diversified portfolio of stocks, bonds, and cash. However, one of the main advantages of diversification is reducing risk, not necessarily increasing return.
It is important that investment goals and risk tolerance are assessed. Many factors such as age, financial resources, time horizon and investor’s objectives help determine how much risk an investor is willing to accept. A financial advisor can help build an investment strategy that with proper diversification and asset allocation, a comfortable place on the risk/reward spectrum are found.
