Diversification
Definition
An investment strategy that reduces risk by spreading investments across different asset classes, industries, and geographic regions.
Diversification is the practice of not putting all your eggs in one basket. By investing in a variety of assets that respond differently to market conditions, you reduce the risk that a single poor-performing investment will devastate your entire portfolio.
Effective diversification spans multiple dimensions: asset classes (stocks, bonds, real estate), sectors (technology, healthcare, energy), company sizes (large-cap, mid-cap, small-cap), and geographies (domestic, international, emerging markets). Index funds and ETFs offer instant diversification at low cost.
While diversification cannot eliminate all risk, it can significantly reduce unsystematic risk, which is risk specific to individual companies or sectors. The optimal level of diversification balances risk reduction with complexity and costs. Most financial advisors recommend holding at least 20-30 different investments across multiple categories.
Related Calculators
Related Terms
Asset Allocation
financeAn investment strategy that balances risk and reward by distributing portfolio assets among different categories like stocks, bonds, and cash.
Portfolio
financeA collection of financial investments such as stocks, bonds, commodities, cash, and cash equivalents held by an individual or institution.
ETF (Exchange-Traded Fund)
financeAn investment fund that trades on stock exchanges like individual stocks, typically tracking an index, sector, commodity, or other asset class.
Index Fund
financeA type of mutual fund or ETF designed to track the performance of a specific market index, offering broad diversification at low cost.
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