diversification
A risk management strategy that mixes a wide variety of investments to reduce exposure to any single asset.
Example
“Her diversification across stocks, bonds, and real estate protected her when the stock market crashed.”
Memory Tip
DIVERSE-ification — make your investments diverse. Don't put all your eggs in one basket.
Why It Matters
Diversification is the only free lunch in investing. It reduces risk without necessarily reducing expected returns. By spreading investments across assets that do not move in lockstep you smooth out volatility. A portfolio of 20 uncorrelated stocks has significantly less risk than any single stock without sacrificing average returns.
Common Misconception
Many investors think holding multiple stocks in the same sector counts as diversification. Owning 10 tech stocks still leaves you highly concentrated in technology risk. True diversification spans asset classes including stocks bonds and real estate as well as geographies and sectors.
In Practice
A classic diversified portfolio holds U.S. stocks international stocks bonds and real estate investment trusts. In 2022 when U.S. stocks fell 18% international value stocks were roughly flat and commodity-linked assets rose significantly. An investor diversified across all three experienced a much smaller loss.
Etymology
From Latin 'diversus' (varied) + facere (to make) — making a varied portfolio.
Common Misspellings
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