Diversify, Really

Diversify, Really

Your portfolio performance is heavily influenced by where you invest. The amount you allocate to stocks, bonds, and cash can make a real difference to your well being and your sleep patterns. That's why you'll often hear about diversifying your portfolio. However, to really diversify requires attention to the details. Here are some of the details.

Some investors think they diversify if they buy ten different Internet companies. That's not quite the concept. Diversifying means buying ten different industries with very low correlation among them. For example, if you were starting a portfolio, you might want to start with an Internet stock (and then put on your seat belt). But that shouldn't take all your investing dollars. In fact, it should represent less than 10% of your planned investments. Since the volatility of the 'Net stocks is so high, you would want to neutralize the portfolio by putting more of your investment dollars into a money market fund which won't move at all.

Then when you've added more to your investment pool, you can look at adding another industry group, one that isn't as volatile on a daily basis as the 'Net stocks, and one that isn't dependent on the 'Net for a major source of revenues. You might look at the drug stocks or the consumer nondurables. Again, you would want to add less than 10% of the available funds to each of these stocks.

What you're working toward: at least ten industries for the stock portion of the portfolio with each stock being the best stock, in your opinion, in that industry group. There should still be money in a money market fund (the equivalent of cash) as well as some in fixed income. Your age will help determine a good mix of these.

If you're below 30, you'll consider 80% in stocks or mutual funds, 10% in cash and 10% in fixed income as a goal for allocation. If you're 30 to 40, then pare back the equities portion a little to 70%, and 10% in cash, 20% in fixed income. If you're 40 to 50, then look at 60%, 10% and 30%. From 50 to 60, then pull in a little more to 50%, 10% and 40%. Over 60, consider 40%, 10% and 50%. If you're retired, then look at more fixed income in the mix at the expense of equities.

These aren't hard and fast allocations, just guidelines to get you thinking about how your portfolio should look. Your risk profile will give you more equities or more fixed income depending on your aggressive or conservative bias. However, it's important to always have some equities in your portfolio (or equity funds) no matter what your age. If inflation roars back, this will be the portion of your investments that protects you from the damage, not your fixed income.

Also, the fixed income of your portfolio should be diversified. If you buy bills, notes and bonds directly, then make sure you have at least five different maturities to spread out the interest rate risk. Of course, you can do the same with dedicated bond funds.

Diversfying in equities and bonds means more than buying a number of positions. Each position needs to be scrutinized as to how it fits into the stocks or bonds that already are in your portfolio, and how they might be affected by the same event such as higher interest rates, lower fuel prices, etc.. Put your portfolio together like a puzzle, adding a piece at a time, each one a little different from the other but achieving a uniform whole once the portfolio is complete.

Article from: aol.theonlineinvestor