Investment

Diversification

Diversification is the most important of all investment concepts. It simply means investing your money across a range of asset classes and securities.

You've probably heard of the term "not putting all your eggs in the one basket". A well-diversified portfolio blends Australian and international shares, bonds, property and cash.

Why diversify?

Spreading your money across a range of investments is one of the best ways to reduce your exposure to market risk.

Investment markets move in different cycles, reflecting the underlying strength of the economy, industry trends and investor sentiment. Diversifying your portfolio can help smooth out market ups and downs as returns from better performing assets help to offset those that aren't performing so well.

It's all about correlation

Correlation is a term used to explain the different risk/return relationships of asset classes.

As different asset classes and sectors perform at different times, holding investments with low or negative correlations reduces overall return volatility by spreading risk across a range of investments. For example, historically Australian fixed interest has been negatively correlated with Australian shares.

Implementing a diversified portfolio

You can achieve diversification in a number of ways:

• include exposure to different asset sectors, like shares, fixed interest and property;
• hold a spread of investments within an asset sector, like different countries, industries and companies; and
• invest in a diversified managed fund that includes exposure to different asset sectors, such as shares, fixed interest and property;
• invest in a number of funds managed by different fund managers. For example, blending active with index managers

An advantage of investing in a managed fund is that your money is pooled together with other investors so you can access a much more diversified portfolio than you could yourself.

Looking beyond last year's winner

Diversification means you don't have to worry about trying to time the markets for the right time to invest. With a diversified portfolio you are always in the market.

As different asset classes perform at different times picking winners can be difficult. Quite often the best performing asset class or investment one year can appear as one of the worst the following year.

To see how asset class correlations work in practice try our interactive index chart.