The idiom, "go big or go home" originated as an advertising campaign for a motorcycle exhaust system. It wasn't written for the investors who tout it today, and for an excellent reason: Risk management is as imperative to investment strategy as due diligence is, but these terms don't give big dreamers quite the same adrenaline buzz as a stock market gamble does.

Stalking the refresh button on your browser all day while wringing your hands over microscopic changes in your stocks is as stressful as it is pointless. Investment isn't supposed to have anything in common with gambling, however, all investments involve some measure of risk.  Everyone wants fantastic returns, and they can be earned as long as you handle the market wisely. Major stocks frequently fall by as much as 90% within a year, and diversification is the only way to buffer your risk against catastrophe.

Paris image diversify

-1) Navigating Market Climates

The more stocks you own in the same funds, the more vulnerable you are to risk. Even the most obsessive stock watching won't make up for the unpredictable nature of the market. Risk aversion isn't a dirty word, but a sign of wisdom, so keep your allocations well spread across asset classes. Investing this way won't earn you short-term bumper profits, but over the long term, your profits will stack up.

-2) Buffering Against Crisis

Inflation rates, political factors, and exchange rates are just some of the risks that can weigh heavily on your portfolio, and they are best eliminated through counterbalancing.

Stock pickers trying to exploit the supposedly low-risk pharmaceutical industry recently lost 22.1%.  If they had been diversified across the sector, they would have returned an average of 24% instead. The scenario impresses upon investors the importance of diversifying even within the same asset class, but risk can be reduced even further by investing in stocks across an array of risk profiles, markets, and countries.

Don't be afraid to invest in aggressive growth funds. As long as you diversify, you can still play the market without being more risk-averse than your personality prefers. When one stock tanks or political crisis send a country into economic chaos, you can rest easy knowing that your gains will buffer you against losses.

-3) Will You Lose?

Even investors affected by Standard and Poor (S&P) 500's all-but-dead decade, which produced average returns of only 1.4% between January 2001 and November 2011, would have stayed buoyant if they had been diversified. For example, if they had invested 40% of their portfolio in bonds, they could have earned as much as 5.7% in average annual returns. Those who invested only in the hottest stocks of 2007 would have lost 60% of their investment when the market crashed in 2008.

-4) Your Investment Personality

Keeping your emotional balance is as critical to your investment strategy as it is to your mental well-being. Watching real-time fluctuations all day is the fastest track to an anxiety disorder, and as you lose your clarity to stress, your choices will steadily diminish in quality. After the 2008 crash, investors began to use more aggressive and tactical methods, responding to economic and industry conditions more actively than they had before. Passive asset management such as an index fund is still an equally legitimate way to manage your portfolio. Uncorrelated stocks or stocks that move in opposite direction of each other are less sensitive to stock market swings, and less fine-tuning often comes at a lower cost.

Wall Street is erratic. The free market, with its politics and economic factors, is equally unpredictable and, while diversification isn't a fail-safe way to evade loss, it strives to smooth out risk and it certainly provides better odds. 


 

 

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12 Wealth Building Habits of Financially Savvy Women