Perhaps no strategic decision you make as an investor has more impact on the performance of your portfolio than how you spread your investment principal among a range of different investments. There are two steps to this process. First you
allocate your assets,
or decide what percentage of your portfolio you should hold in different
asset classes,
such as stocks, bonds, and cash equivalents. The next step is diversifying, or choosing a broad variety of individual investments within each asset class. For instance, a well-diversified portfolio might include large-company, small-company, and international stock, and government and corporate bonds of different maturities.
How you diversify can have a major impact on the amount of risk you take and the level of return you’re likely to achieve. That’s because different investments grow at different rates, expose you to different levels of risk, and respond to changes in the financial markets in different ways. For instance, the economic conditions that cause stock prices to rise may cause bond prices to slump, and vice versa.
When you diversify, you’re putting yourself in a position to benefit from strong performance in some of your investments, while insulating yourself from some of the downside if a particular investment or group of investments in your portfolio falls in value.
With almost 60% of the world’s
capital outside the U.S., international investments
are an increasingly important part of most investors’
diversification strategy.
