With the holiday season in full swing, we all love the good old basket of diverse things that comes with it—be it the Christmas lights, the goodies and gifts, or the warm memories of the year gone by. Have you wondered why assortment and diversification are so important to investing?
Have you thought of diversifying your finances?
If SIPs work so well in generating wealth, should I not invest all my monies in equity funds itself. Why worry about looking at an assortment of asset classes? The reason is that you need to diversify, which is one of the best tools to reduce your risk. Remember, long term wealth creation is not just about returns but also about risk. Putting all your money in an asset with high returns and high risk is not a good idea. You never know when the risk works against you. This is why, diversification of asset classes is important.
Here are a few sound financial tips that you could take with you through this holiday season:
1. You need equities to create wealth
There are no two opinions here: only equities create wealth in the long run. Equity represents participation in the performance of a company. If a portfolio is carefully selected (as most equity funds do), then you get the best of the outperformers. The challenge is to make the most of good times and protect your risk in bad times. That is where other asset classes come in. You need to look beyond equities in your portfolio.
2. Bonds combine reasonable returns with protection
Equity investments create wealth in the long term but are vulnerable to volatility. Prolonged periods of volatility can be quite unnerving. That is where bonds fit in. As part of your investment assortment, invest in bonds to give stability to your portfolio and assured returns. The proportion of bonds in your portfolio needs to increase with age and also when your risk capacity is lower. You can sub-divide your debt exposure into long-term debt for stability and short-term debt for liquidity.
3. Gold gives stability in uncertain times
Why gold? Normally an exposure of 10-12% to gold is suggested to give stability. It is the only asset that has consistently given returns over centuries. It is indestructible and every ounce of gold mined still exists in some form. Gold, as an asset class, performs best in times of economic and political uncertainty. Gold did extremely well through the 1970s, when there was global geopolitical turmoil. Gold also did extremely well after the 2008 Lehman crisis and doubled between 2008 and 2011. When all assets are headed down, gold is one asset class that can flatter you on the upside.
4. Insurance will make sure that all other assets perform
We understand risk and returns but what about uncertainty? Remember, uncertainty is an extreme form of risk. You cannot hedge uncertainty but you can insure against it. The idea of adding insurance to your portfolio is to make sure that the performance of other asset classes are not impacted by the uncertainty. What are the insurance covers that should be part of the assortment? You need a life cover to take care of the family in your absence. You also need a medical cover for your family considering the soaring medical costs. Above all, ensure that all assets and liabilities are fully insured with pure risk covers.
It is only when you have an assortment of asset classes that your portfolio can really deliver value. This holiday season, let the assortment of goodies remind you of the need to diversify.
Wish you a financially joyous season and happy holidays!