Hello;
While diversification is a good way to preserve wealth, concentration is often a better way to build a fortune. Let’s discuss the differences between the two.1 (Investopedia Concentrated vs Diversified Portfolios Jan. ’22)
What diversification does
- Diversifying investments is touted as reducing both risk and volatility.
- While a diversified portfolio may lower your overall risk level, it also reduces your potential capital gains.
- There are many ways too diversify such as: investing in different asset classes, different industry groups, foreign companies’ vs domestic, and by the size of companies.
- The real question is to what extent investors should diversify their portfolios? The answer depends on personal goals, risk tolerance, and preferred investment strategies.
Advantages of a Diversified Portfolio
- Reduces the level of volatility. When investments in one area perform poorly, other investments in the portfolio can offset losses.
Disadvantages of a Diversified Portfolio
- The challenges with diversification are less publicized. Diversification can also have adverse effects on an investment portfolio.
- Diversifying an investment portfolio tends to limit potential gains and produce average results. A concentrated portfolio can substantially outperform, whereas a heavily diversified portfolio leads to mediocre performance
Advantages of a Concentrated Portfolios
- One of the main benefits of a more concentrated portfolio is that while it does increase the risk, it also increases potential gains.
- Investment portfolios that obtain the highest returns for investors are not usually widely diversified. Those with investments concentrated in a few companies or industries are better at building vast wealth.
What is the best approach?
- The best path will hinge upon personal risk tolerance and overall investment goals. While some level of diversification should be a consideration in constructing an investment portfolio, it should not be the driving concern.
Sincerely,
Mike Busby (31-May-24)
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