The Diversification Defense
The Diversification Defense
If you watch football, you know that a good defense can help a team win the game. Are you also aware that a good defensive strategy can help you achieve your retirement goals? When you’re investing for retirement, investment risk is the opponent you need to defend against. Diversifying* your investments can help guard your portfolio against investment risk.
On any trading day, a company’s stock price can rise or fall significantly and suddenly due to a variety of factors, including industry developments, the company’s financial results, a merger, or some other news or event. That’s why investing in only one stock is risky. It’s also risky to limit your investments to companies that are all in the same industry. If that industry falters, your portfolio would likely suffer losses.
When you put your money into several different investments — a defensive strategy known as diversification — a drop in the value of one investment won’t have as much impact on the overall value of your account.
The funds or portfolios in your retirement plan’s investment lineup offer built-in diversification. For example, when you invest in a stock fund, your money is pooled with that of other investors and used to buy the stocks of many companies. You achieve greater diversification than you would by investing in only one or two stocks. Some stock funds limit their holdings to one particular industry or market sector. You can further diversify by choosing stock funds that invest in different industries.
Pumped Up Protection
You can increase your diversification by investing in different types of assets, such as bonds and cash alternatives. The stock and bond markets often react differently to economic conditions. Cash alternatives are less risky than stocks or bonds, but it may be very difficult to attain your long-term financial goals if you limit your investments to cash alternatives.
How you divide your investments among the different asset classes should depend on your risk tolerance and the number of years you have before you plan to retire. In general, the closer you are to retirement, the less risk you should take. It’s a good idea to periodically review your lineup and adjust your defensive strategy when necessary to help your portfolio get into the end zone.
*Diversification does not ensure a profit or protect against loss in a declining market.
Disclosure: This publication is provided for informational purposes only and is not intended to provide specific investment or planning advice.
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