Among your most important financial friends is diversification. After all, what other single action can you take to simultaneously dampen your exposure to a number of investment risks while efficiently investing toward your personal financial goals? While they may seem almost magical, the benefits of diversification have been well-documented and widely explained by nearly 70 years of academic inquiry. Its powers are both evidence-based and robust.
Global Diversification: Quantity AND Quality
What is diversification? In a general sense, it’s about spreading your risks around. In investing, that means that it’s more than just ensuring you have many holdings, it’s also about having many different kinds of holdings. If we compare this to the adage about not putting all your eggs in one basket, an apt comparison would be to ensure that your multiple baskets contain not only eggs but also a bounty of fruits, vegetables, grains, meats, and cheese.
While this may make intuitive sense, many investors come to us believing they are well-diversified when they are not. They may own a large number of stocks or stock funds across numerous accounts. But upon closer analysis, we find that the bulk of their holdings are concentrated in large-company U.S. stocks.
Think of a concentrated portfolio as the undiversified equivalent of many basketsful of plain, white eggs. Over-exposure to what should be only one ingredient among many in your financial diet is not only unappetizing, it can be detrimental to your financial health. Poor diversification:
- Increases your vulnerability to specific, avoidable risks
- Creates a bumpier, less reliable overall investment experience
- Makes you more susceptible to second-guessing your investment decisions
Combined, these three strikes tend to generate unnecessary costs, lowered expected returns and, perhaps most important of all, increased anxiety. You are back to trying to beat instead of play along with a powerful market. Instead, consider that there is a wide world of investment opportunities available from low-cost funds offering efficient exposure to capital markets found all around the globe.
Your Take-Home
To best capture the full benefits that global diversification has to offer, we utilize funds that focus their energies – and yours – on efficiently capturing diversified dimensions of global returns.
Andrea L. Blackwelder, CFP®, ChFC, CDFA® and Joseph D. Clemens, CFP®, EA are the founders and partners of Wisdom Wealth Strategies. Their shared passion is simple: to bring financial empowerment, understanding, and peace-of mind to people who wish to improve their financial future, build wealth for their families, and achieve financial independence. Click here to find out more about how you can work with the Denver Financial Advisors at Wisdom Wealth Strategies.