Even if you know only the bare basics of investing, you’ve probably heard that you need to “diversify” your portfolio — the technical term for not putting all of your investing eggs in one basket.
According to Charles Schwab portfolio consultant Sean Moore, many investors don’t quite implement the strategy like they should.
A common mistake Moore sees is investors putting together a “collection” of investments rather than a portfolio. “You find that because investors don’t understand what’s going to serve their best big-picture objectives, and they purchase or select investments based on factors like past performance or names they recognise,” Moore explains.
Investing in a handful of mutual funds might seem diverse, he says, but the securities held in the funds may be incredibly similar. This strategy could lead not only to improperly diversified investments, but also to inappropriate levels of risk for your specific situation.
“It’s common to see investors holding funds that all hold securities from the S&P 500 and that’s it, or all technology, or something like that,” Moore continues. “That isn’t diversification, because you need to have a wide array of areas you can be successful in as an investor. If one area struggles, there should be other areas you can find success.”
Moore points out that “funds of funds,” like target date funds, are available for investors who aren’t completely secure in their own diversification strategies. “They’re sometimes referred to as market or balanced funds,” he explains. “Obviously it’s not tailored to you specifically, but the idea is it’s pre-diversified.”
However, he cautions, investors who are just starting out might want to work with an investment adviser on a properly diversified strategy more specifically tailored to them, since they probably have more time until they need the money and therefore a little more tolerance for risk.