The term ‘diversification’ is frequently uttered in the investing and trading space, but what does it actually mean and how can it help you as a trader or investor?
Knowing why diversification is important, as well as how you can execute it effectively, means you could get more out of your future investments. Here’s what you need to know.
Why is diversification important in trading and investing?
The premise of a diverse portfolio when investing is that it helps to combat the risk of losses due to market volatility. If you spread your money across a range of markets and asset classes, for example, it means you’re less reliant on one product.
Diversification can look different for everyone and ultimately, it’s a personal decision. Fortunately, there are ways to familiarise yourself with the best approach for your circumstances.
How to diversify using a trading platform
One of the best places to start is with a multi-asset trading platform that allows you to toggle between different markets from one account. Not only will this make your life easier, but it will give you a clear overview of your investments and allow you to implement your strategy more effectively.
Often, there are tools and analysis functions you can use to help shape your decisions. Good trading platforms will also provide resources to help traders improve their knowledge as they go. Some even have training platforms so that you can practice executing trades before doing it for real. This is ideal for those new to the trading space, so you can get familiar with the tools at your disposal and feel more prepared.
What markets can you use for a diverse portfolio?
There are many ways to diversify your portfolio. Examples include:
- Forex
- Stocks
- Indices
You may also want to consider international market diversification, otherwise, you may be restricted.
Otherwise, you could diversify your portfolio further with alternative investments such as:
- Hedge funds
- Real estate
- Private equity
- Commodities
It’s worth noting that alternative investments tend to be illiquid, which means they can be tricky or time-consuming to convert into cash.
Often, the more unrelated and diverse your investments are, the better. This approach can reduce the risk level, as you won’t be ‘putting all your eggs in one basket’, so to speak.
Diversifying forex trading
When it comes to diversification in forex trading, you can invest in a variety of minor, major and exotic currency pairs.
- Example of a major currency pair: Euro/US Dollar
- Example of a minor currency pair: Australian Dollar/US Dollar
- Example of an exotic currency pair: Keny Shilling/Turkish Lira
Even the time of day in which you trade can make a difference when dealing with forex investing and trading.
Diversifying stock trading
For stocks, be sure to invest in a range of companies and enterprises of different sizes. You might also want to invest in popular indices, such as FTSE 100 or Dow Jones, as well as others in the financial or tech sector.
Again, the more you spread out your investments across industries, the more diversified your portfolio will be.