Diversification Is The Key To Investments

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Image source: lioncrestfunding.com

BY: FAZAAD BACCHUS

I was talking with another advisor recently and he said to me that his community does not invest in RRSP’s; they only invest in Real Estate. Of course, I was quite taken aback by this statement as the government is quite generous with their taxable benefit regarding RRSP’s. Then he continued, and do you see how well the real estate market is doing, they are doing the right thing.

So, let’s talk about whether they are doing the right thing. In financial investments, there are basically twelve sectors that you could invest your money in. These sectors are consumer discretionary, consumer staples, energy, financials, health care, industrials, information technology, materials, telecommunication services, and utilities. Many advisors try to steer clients away from investing in one particular sector, as this type of investing can be very volatile. If an advisor does make a recommendation, it would tend to be very limited. Why is this so? Because of the age old proverb that we were taught in primary school “Don’t put all your eggs in one basket”!

There is nothing wrong with investing in real estate, but to be overly concentrated in it could pose a significant problem if the market falls. It’s actually not a bad strategy to have properties where you can rely on the rental income, as this can help you fund your retirement, but to put everything you have in it might not be such a good idea. This is likened onto putting everything into a sector when the sector is good, the going is good, but when the sector falls, you can find yourself with a very hard fall.

Diversification is the key even at the risk on short-term gains. A good advisor will recommend a mix of investment strategies, which includes fixed income, bonds, and equity. Some would even spread the risk to geographic locations, such as other North American or International locations. It was Harry Markowitz who coined the phrase that “Diversification is the only free lunch when it comes to investing” This means that it is a given that you should be diversified and you don’t need to pay to be.

So, the next time you meet with your advisor or you get a statement from the bank, examine it to see how diversified a position you are in. The easiest diversified position to find yourself in is in a balanced portfolio, these portfolios invest in a little bit of everything regarding the twelve sectors. They know that some will go up and some will come down, a case for negative correlation. A balanced portfolio usually gives you a middle of the road return also and that’s because the risk is less. This might very well be the best option for many clients, not too much risk and still reasonable returns.

If you are lucky, you might find a good advisor who will be able to offer you a portfolio with the same risk and a yet a better return. These advisors are very active and create model portfolios based on market trends, and expectations. With a good risk understanding and the implementation of Modern Portfolio Theory, your advisor can take the guesswork out of investing. Do not continue to invest in the dark, call an advisor who can guide you. Happy Investing!

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