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A Diversified Portfolio: Getting From A to B  |
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 We’ve all heard how important it is to have a diversified portfolio. Turn on any financial TV show and you’re bound to hear the words ‘diversified portfolio’ at least once. The concept of a diversified portfolio is an easy one. The actual application of a successfully diversified portfolio is something else completely.
The right way to diversify your portfolio depends largely on you and your specific financial goals, your time frame, your current assets, and your risk tolerance.
Is your portfolio diversified in a way that will be a success for you? Consider the following:
• How do you view your retirement? Today’s retirement ideal is changing. If your health picture is good and you’re not quite willing to give up work altogether, it’s wise to design a plan for a full- or part-time post-retirement career or extensive volunteer work. Can a product that automatically changes your diversification picture every year foresee the investment performance and tax issues that may surface in a working retirement? Not likely.
• How would your portfolio weather a serious market downturn? Based on your retirement scenario, are you diversified enough in various asset classes (stocks, bonds, cash or real estate) that the overall value of your retirement portfolio wouldn’t severely suffer if one or more of your asset classes suffered a serious downturn? When the market bubble popped in 2000, many investors who were invested heavily in growth stocks suffered because they didn’t have other investments positioned for gains or at least stability against those losing value.
• Are you adequately covered for worst-case scenarios? Granted, Social Security and Medicare – for as long as they last – will always offer some degree of safety net to retirees, but have you also planned savings and investments outside your retirement fund to cover possible health and unexpected financial emergencies in your post-retirement years? A planner can help you check your investment diversification as the years go by to make sure you are prepared for any eventuality.
• Will you know how to keep fees under control? Targeted investment plans automatically re-allocate your holdings based on your investment timeframe, but they generally charge higher fees to do so. Self-managed portfolios of individual stocks might become fairly costly if you trade often. To get a properly diversified portfolio of investments, you need to understand the various fees and costs associated with them and whether there might be more affordable alternatives. Fees should be reasonable in relation to overall performance.
• How will you avoid over-diversification? First of all, what is over-diversification? It doesn’t pertain to the overall amount invested, but how that money is allocated. Simply, money spread across too many different kinds of investments can mean that a positive gain in any single one won’t make that much of a difference in the overall value of your portfolio. Are there rules of thumb? Some believe you shouldn’t own more than 15-20 individual stocks or mutual funds in more than four or five asset classes that don’t overlap each other.
You may find it necessary to seek out the help of a professional financial planner. If so remember it’s always appropriate to ask what his or her approach to diversification would be relative to your particular situation and why.
Information for this article provided by The Financial Planning Association (FPA).
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