We’ve all heard it over and over. In school... in magazines... on the TV… from our doctor... Our health relies on us eating a balanced diet - which means feeding ourselves all the right nutrients in order for our bodies to function the way they’re supposed to. We’re advised to have:
5 portions of fruit and vegetables a day.
Protein from meat, fish, eggs, etc.
Starchy foods, like potatoes or rice.
A little dairy (or dairy alternatives).
A little unsaturated fat.
Eat the wrong nutrients or not enough of the right ones and, over time, your body will suffer. Maybe from bloating (urgh), or tiredness, or that pain in your stomach which just won’t budge after a big roast dinner with extra mashed potatoes. (Totally worth it, though.)
What’s this got to do with personal finance, Rick?
(I’ll get to it, I promise.) First, picture this (we’re sticking with a food theme because I’m a self-confessed full on foodie): It’s Mother’s Day and you’re taking your nearest and dearest out for Sunday brunch (my favorite - yours, too?) at that posh-ish hotel you know she’ll love. When you get there, you’re met with a buffet that stretches what looks like the length of a tennis court, although Serena Williams is nowhere in sight. Instead, you’re greeted with crumbly cinnamon pastries, deep red strawberries, bread speckled with sunflower and poppy seeds, crisp and colorful arugula salad, lightly spiced chicken, scrambled eggs and crispy bacon (love it when it’s overcooked) being kept warm in their trays, French toast that could have walked straight out of Paris, and many more tasty morsels.
You and mom saunter your way down the buffet, plates in your left hands, empty and hungry. You grab tongs at each station and help yourselves to some pastry and fruit to start, a little bacon and French toast, and then a smidgen of chicken and salad.
This is balance.
What isn’t balance is an entire bowl of strawberries and cream - and nothing else. Or a plate piled with bacon - and nothing else. Or a stash of the flakiest pastries - and nothing else. You don’t eat fried chicken every night for a reason (you don’t eat fried chicken every night, right?). Not healthy. Not sustainable. If you looked in my fridge, you’d find things like orange juice, milk, watermelon chunks, ripe tomatoes, sirloin steak - ready to grill. An assortment of the food groups.
This is balance.
It’s just the same when it comes to your investment planning. (See, I told you I’d get to the finance part.) Just like your diet, your long-term portfolio needs to be balanced. Spread your assets, spread your risk.* If you put all your money into just one investment, and that investment did poorly, your wealth would suffer. At least temporarily. A good financial planner will advise you of the best ways to spread your finances across different suitable areas, rather than just one - like eating a bit from each of the food groups, rather than just one.
By choosing to blend different, mixed investments (AKA diversification), we’re spreading the risk and allowing for different parts of our portfolios to zig when others zag. Some investments will do well, some won’t. There’s no law saying you can’t dump everything you have into a single investment but if you do, I wish you luck with your level of anxiety because you’re going to need it. A single-investment strategy is the equivalent of heaping your Sunday brunch plate high with chocolate eclairs. And your Monday breakfast bowl. And Tuesday... And Wednesday. And……. Get the idea?! Not good for you.
It’s easy to focus on the investment ‘winners’ of the moment and compare them with the ones that aren’t doing so well. But that’s a sign that diversification is working! This makes it so useful to the average investor. We have no way of predicting the winners and the losers. Diversification doesn’t assure against market loss and there’s no guarantee that a diversified portfolio will outperform a non-diversified portfolio, but it sure helps us cover a range of possibilities.
I understand why it’s tempting to think that you don’t need diversification. It can be difficult to watch portions of your portfolio climb sky-high while others seem to be lost in the wilderness. But until the day that markets become predictable in the short-term (which will be never), it makes sense to enjoy the benefits of diversification. Like I said, it doesn’t eliminate all risks, but it can be one fantastic shock absorber. When you diversify, you’re setting up guardrails to help you make smart, disciplined investment decisions.
Financial health relies on a balanced financial diet. A little of a good thing can be exactly what you need. Too much of a good thing can lead to problems.
Something to consider over brunch, maybe?
*[Disclaimer]: Diversification does not assure a profit or protect against losses in declining markets, and diversification cannot guarantee that any investment objective or goal will be achieved.