You’ve probably heard people say, "Don’t put all your eggs in one basket." But when it comes to investing, what does that really mean? Does simply owning multiple assets make a portfolio diversified, or is there more to it? Let’s explore what true diversification looks like and why it matters.
What is a diversified portfolio?
Think of a diversified portfolio like a sports team. If every player had the same skill set, the team wouldn’t be able to adapt to different challenges. You need a mix of strengths – offence, defence, and strategy – to stay competitive no matter what happens.
The same goes for investing. Different assets, industries, and markets don’t always move in the same direction. When one struggles, another might thrive, helping to balance things out over time and reduce overall risk.
A well-diversified portfolio usually includes a mix of:
- Shares (equities): The growth engine, spread across different industries and markets.
- Bonds (fixed income): A bit of stability and steady income.
- Commodities: Gold, silver, oil – these may help during inflation or economic downturns.
- Real estate: Property investments or real estate investment trusts (REITs) for extra diversity.
- Cash or cash equivalents: Liquidity for opportunities and emergencies.
There's no single approach to diversifying your portfolio. How much you invest in each – and whether you invest in some of these at all – depends on your risk tolerance , investing horizon , and goals.
How to build a diversified portfolio
There are two main ways to do this: you can invest in diversified ETFs or build your own portfolio from scratch. Let’s look at each option.
1. Choosing diversified ETFs
If you don’t want to stress over picking individual investments, diversified exchange-traded funds (ETFs) could be a solid option. These funds spread your money across different assets automatically, making diversification easy.
Some popular types of diversified ETFs include:
- Broad-market ETFs : Cover major indices like the S&P 500 , ASX 200 , or MSCI World Index.
- Sector ETFs : Focus on industries like tech, healthcare, or energy.
- Bond ETFs : Mix of government and corporate bonds for added stability.
- Multi-asset ETFs: Combine stocks, bonds, and other assets in a single fund.
ETFs can be a convenient way to diversify, but it’s still important to check what’s inside each one. Some ETFs might SEEM diversified, but have a heavy concentration in one sector or country.
2. Manually creating a diversified portfolio
If you like having control over your investments, you can build your own diversified portfolio. Here’s how:
- Spread investments across asset classes: Balance shares, bonds, and other investments.
- Diversify within sectors: Don’t just buy tech or mining stocks; consider investing in other industries , like healthcare, consumer goods, or energy.
- Go global: Investing only in Australian stocks can mean relying heavily on the local market. Some investors choose to add international exposure to spread risk and tap into different economic conditions.
- Mix up investment styles: Growth stocks have strong potential for returns, but they can be more volatile. Value stocks and dividend shares, on the other hand, tend to offer steadier historical performance, which some investors consider when balancing their portfolios.
This approach takes more work, but it lets you tailor your portfolio exactly how you want it. However, it’s important to keep an eye on your allocations over time. Markets shift, and what was once a balanced portfolio can drift out of alignment.
Diversified ETFs vs. DIY portfolio: which one is right for you?
So, should you go with diversified ETFs or build your own portfolio? It depends on how much time and effort you want to put in.
- Diversified ETFs: Great if you want a simple, set-and-forget approach.
- DIY portfolio: Ideal if you enjoy researching investments and want full control.
Some investors use a combination of both, using diversified ETFs as a foundation and adding individual investments for more control. Either way, it’s about finding an approach that suits your time commitment and risk tolerance.
For more on this, check out our article on choosing between ETFs and a DIY portfolio .
How to evaluate a diversified portfolio
Not sure if your portfolio is diversified enough? Ask yourself these questions:
Does your portfolio cover different geographies?
If you’re only investing in Australian shares, you’re potentially taking on risk. International exposure can help spread the risk and allow you to benefit from different economic conditions.
Are you overweight in one industry?
If 80% of your investments are in, for example, tech stocks, a market downturn could hit hard. Consider balancing your portfolio with other industries.
Are you invested in different asset classes?
Shares, bonds, real estate, and commodities all perform differently under various market conditions. A good mix can help keep things steady and reduce reliance on any single investment type.
Do you have a mix of investing styles?
Growth stocks typically do well in boom times but can struggle in downturns. Value stocks may perform better when the market is shaky. Having both can help provide balance over different market cycles.
How correlated are your investments?
Just because you own multiple stocks doesn’t mean you’re diversified. If they all move in the same direction (like tech and semiconductor stocks, for instance), you could still be at risk. Diversification is about spreading risk effectively.
Is your portfolio aligned with your risk tolerance?
A diversified portfolio should match how much risk you’re comfortable with. If you’re young and okay with risk, more stocks might be fine. If you’re close to retirement, stability might be more important.
Are you adjusting over time?
Markets change, and your portfolio should, too. Regularly checking your investments and rebalancing when needed can help maintain diversification over time.
Putting diversification into practice
Diversification isn’t just about having a lot of investments – it’s about having the right mix of investments. A strong portfolio spreads risk across different asset classes, industries, and geographies, so there's less chance a single event will wipe out your wealth.
Whether you go with diversified ETFs or build your own portfolio, the key is to keep learning, reviewing your investments, and making adjustments when needed.
At the end of the day, long-term investing is a marathon, not a sprint. Diversification can help smooth out the inevitable ups and downs, keeping you on track toward your financial goals.
Stay patient, stay diversified, and keep growing. And don't hesitate to reach out to a licensed financial adviser if you need help figuring out how to diversify your portfolio.
Happy investing!
