20 Dec Don’t Put All Your Eggs in One Basket
When my Mom shared this wisdom with me (about not putting all my “eggs in one basket”), she usually meant things like, “don’t only apply to one college” or “don’t just schedule one job interview”, but it also applies to finances!
Whatever amount of money you may have to invest, it’s important not to concentrate it all in one type of investment opportunity…or those eggs may crack! Diversification is the practice of spreading money among different investments to reduce the risk that they will all be impacted by the same bad event. I would not have wanted all my money in stocks when the market crashed or in real estate during the meltdown, earlier this decade.
It is best to spread investments across different types of assets such as stocks, fixed income bonds, real estate and of course some cash! It’s a good idea not just for protecting against the risk of loss in the event of a major catastrophe, but in general you want investments that don’t move up and down at the same time (called correlation). Since factors that may cause one asset class to perform poorly may improve returns for another asset class, it is sensible to vary investments. If you need access to your money when the stock market is down – resulting in a loss if you cashed in your stocks – it would be nice to have another option for accessing funds!
How much of your portfolio to allocate to stocks, bonds, cash or other securities depends on several things, such as how long you have to invest to reach your goals (called a “time horizon”), your ability to tolerate risk (meaning your willingness to lose some or all of your money in exchange for a potentially bigger return) and whether or not you may soon need access to your invested funds for a big purchase, such as college, a wedding or a house. When there is a longer time to grow wealth, investors are more open to opportunities like real estate, which is usually less liquid and to opportunities that have more risk as they have time to financially recover should the investment not pay off as well as expected.
Keep in mind, investors can also diversify within an asset class. For instance, if you invest in stocks, you can divide your money among different industry sectors such as technology, energy or consumer goods. If you invest in ETF’s there is already built in diversification since these investments are really a “basket” of varied stocks, however, ultimately you are still only invested in the stock market and are subject to its volatility and unpredictability.
Bottom line is, buying a range of investments is important to weather economic ups and downs, as no one is ever sure what the market will do at any moment. So as you keep building your investment portfolio – whether it is $10.00 at a time with our Worthy bonds or your million dollar lottery winnings – be sure to diversify!