The Basics of Diversifying an Asset Portfolio

To diversify, investors have several asset classes that can allow them to expose themselves to different sources of return. This management must be done in compliance with regulatory and contractual obligations and by applying internally defined investment strategies, to achieve the best possible return based on the chosen risk. Kirk Chewning can handle this and more.

Advantages of diversifying

Good diversification has several advantages for an investor:

  • In the event of an economic crisis, the investor will benefit from a compensation effect between certain investments affected by the crisis and others that will be unscathed or even progress simultaneously.
  • In the absence of a crisis, diversification provides more consistent and less volatile global returns than investing in a single asset class or enterprise.

In other words, diversification reduces the overall risk taken by the investor, without necessarily decreasing long-term returns. It helps the investor avoid a massive loss due to a single bet on a class of assets in a bad position or on a company in bankruptcy. The diversification process is still recommended by all financial players, including securities regulators, financial advisors, private banks, among others.

Sources of “classic” diversification

The three best-known asset classes are equities, bonds, and real estate. Investments can capture the growth of a company or sector through two sources of potential earnings: changes in stock market prices and the payment of dividends (which correspond to a portion of the profits of a company). Stocks are a risky asset class: gains and losses can be high. In case of bankruptcy of a company, the investor can even lose his or her entire stake.

Bonds are government or corporate bonds that offer a given yield for a given term. This is a less volatile and less risky asset class than equities, but nowadays, bond yields have become very low or negative. This asset class is, therefore, an almost non-remunerative investment.

Real estate is an investment indirectly subscribed by all the individuals owning their home since the value of their inheritance depends on the variations of the prices of the real estate in their city. Investing in real estate more generally refers to the purchase of real estate to rent and generate regular income.