Why diversification is killing your returns!

I constantly hear people say how great diversification is and why everyone should diversify their portfolio apart from Warren Buffet who states the opposite. So, I did a bit of research to find out why.

Diversifying your portfolio is great for reducing risk but, it reduces your portfolio potential.

Diversification is a risk management strategy where the equity of a portfolio is spread out among different assets to reduce overexposure or underexposure to a particular asset or industry.

Put simply, don’t put all your eggs in one basket.

It is best to diversify using assets that are uncorrelated, (move independently of one another) e.g. different industries or sectors, company sizes or countries or asset classes e.g. commodities, currencies or stocks.

Should you diversify, the importance of diversification?

says, “Diversification is a protection against ignorance. It makes very little sense for those who know what they’re doing.”

Diversification should be avoided because it prevents you from doing the research you need to understand a company at a high level to make an intelligent investment decision. The more companies you invest in, the harder it is to do the research and remember the information needed to understand them at high level.

Diversification is used as a tool to reduce risk of a poor investment decision. Therefore, it should only be used by those who do not know what they are doing, or by people who don’t do enough research to properly understand a company.

The more stocks you hold the less significant a single stocks profit or loss will be to your account.

I recommend holding between 3 and 30 stocks.

To determent the number of stocks you should hold you need to consider these 3 questions:

How much money you are investing?

Originally published at https://www.seanbarrett.uk on March 29, 2022.