What do we mean by diversification? And how do we achieve it?
Diversification reduces your investment risk spreading your assets around. It has been said that there really only three types of investments: loans, land, and ownership of an enterprise. Everything else is a mixture of these three. Loans are paid back over time, usually with periodic interest; land is what a structure sits on (and produces rent); and ownership entails control over a company’s affairs.
By spreading your wealth between these asset types, you’re less likely to be overwhelmed by any one disaster. An example is the current financial crisis. If you concentrated your investments in equity or property, you’ve had a bumpy ride. If you put some government bonds—loans to the authorities—in your portfolio, that should have smoothed things out a bit.
Having money in different types of assets—asset classes—is the simplest type of diversification. It’s also the most effective at reducing your risk.
Douglas R. Tengdin, CFA
Chief Investment Officer
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