Welcome to step 4 of managing your money! So far, you’ve set up a budget, tracked your expenses, and gotten used to the idea of investing.
Now you’re ready to move forward with investing, you need to get comfortable with the idea of a diverse portfolio – that is, one that contains a variety of investments.
Why do I need a diverse portfolio?
It’s important for you to have a diverse portfolio so can balance risk with return. The amount of risk you’re willing to accept in exchange for getting potentially higher returns will depend both on your personality and what stage of life you’re at. When you’re younger and have more time to recover, you’re more likely to accept higher risks than when you’re nearing retirement age and want to protect your nest egg.
A diversified investment portfolio is the best way to ensure you can count on your investments to provide stable returns and income. Generally, when stocks are doing well, bonds tend to offer lower returns. And vice versa – when stocks are underperforming, bonds offer a better return. So you’re protected both ways!
What exactly does a diverse portfolio contain?
A diverse portfolio contains a little bit of everything. It can be tempting to want to buy only bonds so you have a guaranteed return or to buy only stocks with the hope of a big payoff. But if you only buy bonds, you’ll have a very low return on investment, and if you only buy stocks, you risk losing everything if the stock market has a serious dip.
That’s why diversity is so important! Buying a variety of investments – individual stocks, bonds, ETFs, and mutual funds is the best way to ensure you have a diverse portfolio.
So how do I create a diversified portfolio?
You may be panicking, thinking that you have no idea how to pick all of these different types of investments. That’s why ETFs (short for exchange-traded funds) and mutual funds exist! They contain a large variety of bonds and stocks, so you don’t have to shop around trying to buy a whole bunch of specific investments just to get a diversified portfolio.
Whether you work with a financial advisor or robo advisor, you need to consider how much risk you’re willing to take, what kind of investment returns you’re looking for, and how long you plan to invest for. More and more places are offering “set” portfolios designed to fit a specific age and stage in life – so you’d buy one type of portfolio in your 20’s and then gradually move towards another portfolio as you age.
The Takeaway
The notion of diversifying your portfolio can seem overwhelming, but it doesn’t have to be. No one expects to you to pick from hundreds of different investments – instead, a professional advisor or robo advisor can gather some basic information about you and then make suitable recommendations. So don’t let fear keep you from getting started!
