7.2.5 Diversification

From: Financial Consumer Agency of Canada

Diversification means getting a mix of investments. It is a way to reduce risk when you invest.

It is never a good idea to put all your eggs in one basket. If you put all your money in one investment, it may rise or fall depending on a wide range of unpredictable factors. If you put your money into a range of investments and one or two lose money, the others may gain money to balance your investments.

You can diversify your investment portfolio by:

  • choosing different types of investments (e.g., stocks, bonds, term deposits, real estate)
  • choosing different companies or industries
  • choosing investments in different geographical areas (e.g., Canadian, United States, international).

One way for investors to diversify their holdings is to buy products like mutual funds and exchange traded funds (ETFs). Both of these types of investment hold a wide variety of stocks, bonds or other products, so the performance of any single company might not have a large impact on the total value. However, the funds may still be limited to one particular industry or region. They do still rise and fall with market and economic conditions, so they do have risks and are not the best choice for all investors.

Diversification is an important investment strategy to help you avoid large swings in the value of your investments. A registered advisor can help you choose the mix of investments that is best for you.

Definitions

  • Mutual fund: A type of investment made up of money pooled by several investors and managed on their behalf by a manager
  • Exchange traded fund: A type of investment made up of a pool of stocks in the same proportion as a stock exchange index
  • Portfolio: The collection of investments you own
  • Asset mix: The percentage of your investment portfolio in each major type of investment.
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