Investing 101: Why diversification is so important when you invest

Julie Bronwlee, Fsp Invest, 20 Mar. 2014

Tags: diversification, what is diversification, risk, stock specific risk, risk assets, investments, invest, investor, investing, why diversify, investment strategy, strategy, money, shares, stocks,

Once you’ve opened an account with a stockbroker, you’ll be itching to buy your first share. But before you do, you need to make sure you’re aware of a few things first. These points can have a bearing on the success of your investing. So let’s take a closer look at what you need to know before you commit any of your hard-earned cash…

Diversification: The key to avoiding big losses

When you start investing, you have to be aware that sometimes you will make mistakes, John Stepek in Money Week explains…

And when you make mistakes, you will sometimes lose money. That’s why investments are ‘risk’ assets.

The key to being a successful investor is to try and make sure that none of those investment mistakes are catastrophic. This means, at the end of the day, the amount of money you make far outweighs the money you lose.

The good news is, there are many steps you can take to help spread your risk and avoid bad losses.

One of the most basic and well cited is: Don’t put all your eggs in one basket. The technical term for this is diversification.

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Spread your money across different investments

Another way to put it is you should divide your investments among many places as you don’t know what risks lie ahead.

This is common sense. Say you decide to put all of your money into one share, for example. You’re making a very big bet and taking on enormous risk.

And don’t think that the big blue-chip companies are beyond this rule. These companies’ share prices can also suffer huge falls.

So to alleviate this risk, you need to buy more than one share. And those shares need to be in different sectors.

There’s no point investing in five banks. That would only protect you against stock specific risk. What if there is a banking crisis? All your banking shares will fall.

To combat this, when you select shares to buy, you need to make sure you have exposure to a range of different sectors too.

So there you have it, why diversification is so important when you invest.


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