Diversification of your investments is the process of spreading your investment over many different asset classes. You diversify your investments so as to reduce your risk. A number of statements are attributed to Warren Buffet concerning diversification. Some that I especially like are “Risk comes from not knowing what you are doing”. Another one that I like is “Diversification is a protection against ignorance. It makes very little sense for those who know what they are doing.” These statements are very true. If you are savvy enough to find a boatload of winning stock investments, it does not matter how correlated they are. They are all winners and all will make you money.

However, for those of us who are still learning how to determine winning investment strategies, and merely wish to beat the inflation monster, then diversification is the answer. Diversification is the process of placing your investments in those asset classes that will allow you to make the most money with the least amount of risk. If one class goes up, and another one goes down, you still stand to make money. There is also an interesting thing that happens with the measure of risk. Taking on the correct type of risk actually decreases your overall risk.

There are statements that say that you can get into riskier investments if you are younger. They discuss how time will smooth out your mistakes. This may be true, however I have recently read another interesting idea about this. This author stated that with the time value of money, you cannot afford to take on any more risk than you will be rewarded for. Even if you are in your twenties, if you miss out on opportunities for growth, the time value of money will cause you to never be able to make up the amount of money you would have gotten with a better investment strategy.

There are also two different styles of diversification. One style states that you should find the optimum investment portfolio. You should use diversification software to obtain this portfolio. Another states that you should merely go with your own technical and financial analysis. Finding a grouping of assets that have good solid fundamentals that have a good cycle pattern will also serve to provide a diversification strategy. You can finesse both styles as time goes by and you determine what is working. I am not saying either style is right or wrong. What you need to do is work with what works for you and your education level.

With any diversification strategy, you need to watch out for the grocery line scenario. Or as another author, Murphy, put it “The other line always moves faster”. Have you ever jumped out of one line, just to find that the line you jumped from begin to move? If you have determined a good mix of investments, then you should be very careful before jumping out of them. Maybe the only person you will make rich is your stock broker. Do a massive amount of homework and thinking before acting. Maybe by waiting for a period of time, you will find that it worked out best to wait.

I have recently found an interesting site that will help you with your diversification strategy. This site is found at http://www.macroaxis.com. This site has the capability of helping you to determine the best possible mix of assets to invest in. I would suggest you use a stock screener to determine assets to run through the site. It is setup to help you determine the amount of risk involved with your mix. It also has the capability to give you suggestions of stocks to invest in based on your aversion to risk. Maybe you should check it out. I am not associated with this site and will not benefit if you use it. I merely offer it as a suggestion.

One rule of thumb with your diversification strategy. Do not over diversify. Eight stocks to invest in is plenty. Warren Buffet also said “If you understand business, you don’t need to own very many of them. If you have a harem of 40 women, you never get to know any of them very well”.

All of the content published on this website is to be used for informational purposes only and without warranty of any kind. The materials and information in this website are not, and should not be construed as an offer to buy or sell any of the securities named in these materials. Trading of securities may not be suitable for all users of this information.

An informed investor will understand the need for proper diversification strategies within their investment portfolio. They will know that this is the only way to truly enhance their stock market returns while at the same time, minimize their risk. The stock market does not reward you for taking unusual risks. The best method to use with your investment strategy is to create a portfolio which gives you the best chance to make money.

In a study completed by Professors Alok Kumar and William Goetzmann, they found that the individual investor does not properly diversify their stock portfolio. In their study completed in the 90’s, the younger, less wealthy, and non-professional had the least diversified portfolios. About 25 percent of the funds held only one stock and about half of the portfolios held only one to two stocks. Those individuals who did try and diversify by purchasing multiple stocks were haphazard in their investment style. They did not attempt to find those stocks with minimal correlations. It appeared that they were merely following the herd. Going with what the crowd said was a winning stock pick appeared to be their investment strategy. It kind of reminds me of young children playing soccer. Instead of having a well thought out plan, the investor simply tries to follow the ball around the field with the other investors.

Make the decision right now to look at your investment portfolio. Find an asset allocation calculator or site that will help you to determine what stocks have low correlations. I have discussed asset correlations in other postings. One of these articles is entitled “stock-market-diversification-tactics”. This will give you some additional ideas on asset correlation tactics.

In your stock diversification strategy, you should invest across different asset classes. You should also diversify your different investments within each asset class, and across industries and sectors. You can check out the article entitled “strategies in picking winning stock sectors” or “which sectors are going to be the best investments for growth” for ideas on finding stock sectors to invest in. Both of these articles are on this site. Another diversification tactic is to maintain a form of liquidity. You do not want to be 100 percent invested in non-liquid investments and have a financial need arise, or find another investment you wish to take advantage of.

Your asset mix will also depend on your age and how soon you are to retirement. If you have taken the correct approach to diversifying your investment strategy, and taken advantage of all opportunities to invest for your retirement, you will be like an acquaintance of mine. He happily decided to leave the rat race and retired a few months ago. I would hope that each of us could be in that situation when the time comes.

Investing in large cap stocks is a smart thing to do for the proper diversification of your stock portfolio. Harry S. Dent, Jr., an economist, stated that “The best time to buy large cap stocks is at the beginning of a growth boom. The race for market leadership favors large companies.” You should invest in large cap stocks for two reasons. The first reason is because they are more stable stocks. Their revenue and profit will not be as volatile as the small cap stocks. The second reason is that it is a smart thing to do if you feel that the economy is entering a growth period.

Large cap stocks, by definition are those stocks with market capitalization above five billion dollars. In order for a company to reach this pinnacle, they will have to have been around for a long time, and have shown the ability to weather a number of economic cycles. They have shown by this stability the reason that an investor should have them in their portfolio. Placing a portion of your investment in large cap stocks will also help with your asset allocation. They help to stabilize your investment.

On December 22, 2009 an article by the Fidelity Management & Research company stated their expected outlook for the market, and they discussed which asset classes an investor should have their money in. They indicated that “at this point in a recovery period that performance patterns among market-cap sizes have typically become less distinguishable. As a result, owning some exposure to all market cap sizes remains an effective way to diversify the equity allocation within a portfolio.”

In relation to large cap stocks, they indicated that with the large cap company ability to raise capital globally, they are positioned better to take advantage of opportunities that may present themselves in the immediate future. They also stated however, that the large cap companies may have a hard time initiating large returns due to their defensive natures.

If you want to have a properly diversified portfolio, and wish to position yourself to take advantage of the economic growth, I would suggest that you look into slowly increasing your percentage of large cap stocks in your asset allocation.

All of the content published on this website is to be used for informational purposes only and without warranty of any kind. The materials and information in this website are not, and should not be construed as an offer to buy or sell any of the securities named in these materials. Trading of securities may not be suitable for all users of this information.

I think the question of how to make money with stocks is on the mind of every investor. Stories of the person who was able to retire at an early age because of being able to pick the correct stocks are always available. This is kind of like the stories of the gambler who strikes it rich. The problem is that with every success story there are multiple stories about people who lost money. These stories are just not advertised by those who are trying to get you to buy into their stock tips.

Investing publications will often post on their cover sheets that they have the answers on stocks that are undiscovered and have unlimited potential for the investor that jumps in right now. If you have ever bought into this scenario, and I have, then you find the stock generally goes down immediately after you buy it. I have often thought I should just short sell all stocks that come via the latest and greatest stock tip. Except that is also a very risky step to take.

If you are trying to make the proverbial easy buck with your stock investments, then you will always be chasing the next golden goose and end up quitting by saying that it can not be done. That is usually true. In any endeavor, those who are not willing to put in the work do not make the money. If it was easy to make money, then we would all be living in upscale neighborhoods. However, if you are willing to put in a little work and be patient, there is a possibility of you being able to make money with stock investments.

Your investment research should be to look for companies that have a sustainable competitive advantage. They should have products that will enable them to continue to gain market share within their industry. They should also have the mindset that everyone they encounter within their circle of influence is a needed component of their business. This includes customers, employees and shareholders. They should also be strong enough to be able to weather the ups and downs of any trends in the economy. It is easy to make money when everything is going well but how strong are you when the economy turns down. There are many companies that are no longer around who were not able to make the transition when things turned.

Good strong management is also a needed commodity to make a company successful and thus have their stock price continue to climb. Those executives who are able to see into the future for the next ten years and are willing to make the correct decisions even if they seem out of sorts at the current time are the executives who drive successful companies. You need to find companies with this type of management team and it will not matter the industry they are in, they will find a way to make it work. Of course that is another thing that is needed. Industries that analysts do not consider in favor will not do well in the short term. If you invest in these industries, you need to be willing to wait for a while for the prices to go up. I am not saying they will not eventually go up but it may be a while.

That brings me to my last tip. Invest for the long-term. The stock market has historically done better than many other investments but it does go up and down. Do not invest money you need to have available in the short-term. Diversification of your investments is always a good stock trading strategy. Make sure your investments are trading in the most efficient money making way possible by enhancing your return while reducing your risk.

Another article I have written that talks about making money in the stock market can be found at http://mystocktradingtips.com/strategies-and-tips-for-stock-market-investing/. I would suggest you also review this article for ideas.

All of the content published on this website is to be used for informational purposes only and without warranty of any kind. The materials and information in this website are not, and should not be construed as an offer to buy or sell any of the securities named in these materials. Trading of securities may not be suitable for all users of this information.

Real Estate Investment Trusts (REIT) is one additional way to invest in your portfolio. REIT’s are a pool of money from investors that invest mainly in real estate. There are really three types of REIT investments. Equity REIT’s invest in everything physical about real estate including apartment buildings, shopping centers, office buildings and industrial plants. Mortgage REIT’s invest in mortgages and make money from interest payments but not appreciation. Hybrid REIT’s are a combination of both.

REIT’s get a tax exemption but by doing so are required by law to return to the investors 90% of its taxable income. Thus investments in REIT can result in taxable income. Some individuals who invest in REIT’s choose to use their non-taxable funds for this reason.

There is some upside to investing REIT’s. One is that you do not need large capital holdings to invest in real estate. Second is that you do not have to deal with all the issues that come from being a landlord. Third REIT’s have shown to have a negative correlation to stocks. Therefore owing REIT’s will serve to diversify your investments. Fourth buying and selling REIT’s is like buying and selling stocks so it is easy to move in and out of an investment, unlike the actual owning of property You can do stock market trading in REIT’s..

The downside to investing in REIT’s is that you are not actually benefiting as much from the appreciation of property but do bear a good part of the risk since you have placed your investment in real estate. If the real estate market goes down, your investment goes down also. Another is that you will have taxable income every quarter in the form of dividends whether your tax situation can handle it or not.

A professional investor designing a balanced risk investment portfolio may consider investing in REIT’s. However, they would not consider giving up the potential large returns from stock investments to invest in REIT’s. They may move a small percentage of their portfolio to gain the diversification but it would not be much, say 5%. This is because REIT’s are exposed to the risk of price volatility by global economic factors and crises in other electronic markets and countries. Direct investments in real estate does not carry that risk since the price of the investment is not being determined by other factors than the real estate market.

In the latter end of 2009, the stock market and the economy began to improve. Unemployment was improving and the economy begin to grow. However, the real estate market is still down, so moving even a small percentage of your investments to REIT’s at this time does not seem to make a lot of sense. Real estate may come back in 2010 though, so jumping in now may be jumping in ahead of the game. That is a hard call to make.

All of the content published on this website is to be used for informational purposes only and without warranty of any kind. The materials and information in this website are not, and should not be construed as an offer to buy or sell any of the securities named in these materials. Trading of securities may not be suitable for all users of this information.

Achieving the higher returns from investing in the stock market carries with it also the higher risk that something will happen to the principle invested. Concerns that the stock market will dip or that a particular company invested in will go bankrupt or have a bad news report is what is worrisome to most investors. One way to use risk management on reducing this risk is to invest in several different mutual funds.

There are constraints that need to be taken when deciding which mutual funds to invest in. One of these is the cost of the mutual fund. Mutual funds carry with them what is called load fees or exit fees. This is so the expenses of the mutual fund can be handled. An investor needs to review the fees and ensure they are getting the most for their money.

Another thing an investor needs to look at is what stocks the mutual fund is invested in. Often times an investor will invest in 2 – 3 mutual funds and have not really diversified as well as they could due to the fact that the mutual funds they have selected have invested in the same stocks or similar stocks. This results in over diversification. A review of the top holdings is necessary before making a purchase decision.

A well diversified portfolio includes asset classes that are not highly correlated and thus are considered to be complimentary. By spreading your investments over several different funds that have low correlation to each other, the price fluctuations are greatly reduced. This is due to the fact that not all industries move up and down at the same time. Choosing industries that move counter to each other will greatly reduce your risk.

Stock correlations range between +1.0 and -1.0. If an evaluation of two stock funds shows they have a correlation of .93, if you invest in these two funds, you are in essence investing in just one fund since they tend to move together. A better scenario would be to invest in funds that have a correlation of -.25. This would better diversify your portfolio.

The determination of correlation uses a regression analysis which in essence plots the returns and risk for each fund on a graph and determines how they move in relation to each other. The math behind the analysis is a little complicated. There are correlation calculators available on the internet that will simplify this math. By plugging in the funds, you can find out how they correlate to each other.

Another method to use to reduce your risk is to invest globally. A study completed by the Indiana University of Pennsylvania as reported in the Encyclopedia Britannica found that “portfolios with only forty stocks spread among major domestic and international markets reduce risk of domestic portfolios by more than 50 percent”. In this study the European markets were found to be more correlated with the domestic markets while the Asian markets were less correlated and the emerging markets were the least correlated. Thus a portfolio which invests in funds that cover domestic as well as foreign and emerging markets will reduce your risk.

All of the content published on this website is to be used for informational purposes only and without warranty of any kind. The materials and information in this website are not, and should not be construed as an offer to buy or sell any of the securities named in these materials. Trading of securities may not be suitable for all users of this information.

Deciding on your investment time horizon or time line is a crucial step in determining your investment strategy. Your time horizon is the time from when you begin an investment strategy and when you need the money.  For example, if you were saving for a home and wanted to move in after 3 years, your time horizon would be 3 years.

Knowing your time horizon is crucial because you need to know how aggressive you can be with your investments. All things being equal, you can be more aggressive with a longer time horizon.  There are specific strategies and asset classes that make sense for each investor’s time horizon and that should guide you in the decisions you make.

Time diversification or remaining invested through several market cycles helps you to reduce the risk involved with investing.  Time diversification is especially useful with stock investments where in the short term, there may be both up and down swings.  Time diversification helps to smooth out those swings.

Because you can reduce some of the risks through time diversification, a longer investing time period allows you  to take on greater risks and thus benefit from a higher return on your investment.  With a shorter time period you will not be able to diversify over several market cycles, so you will need to settle for lower risk, lower return investments.

To make the most of time diversification it is important to remain invested over more than one market cycle.  A market cycle is a period of time of at least five years.  If you can invest in more than two or three market cycles, the opportunities open up.

For instance, with a time period of 2 – 3 years, you should probably invest in money market or certificate of deposits.  For a time period of 4 – 8 years, you can probably invest in government or corporate bonds or even some high value stocks which are known to consistently pay dividends.  For greater than 8 years you can probably invest more in small company or growth stocks.

If you are establishing a goal for retirement, you need to remember that with retirement goals, depending on your age, you are probably investing on an extensive time horizon.  However, with this goal, you need to realize that you really have two time horizons.  You have the time horizon which goes to your retirement age, but then there is the time horizon from retirement to death.  Many people are living into their ninety’s now, so you should really plan accordingly.  You should still plan on some aggressive investments even after your retirement.

Another thing to remember is that as time progresses, your time horizon shrinks for your goals.  A time horizon of 8 years after a period of 4 years now becomes a short term time horizon.  You will need to constantly evaluate your time horizons and plan accordingly.

Identifying your risk tolerance and time horizon helps to set your investment strategy.  Your strategy will help you decide how much of your portfolio is going to be invested in bonds, stocks, and stable value and money market funds.  This is known as asset allocation and is discussed in another lesson.

All of the content published on this website is to be used for informational purposes only and without warranty of any kind.  The materials and information in this website are not, and should not be construed as an offer to buy or sell any of the securities named in these materials.  Trading of securities may not be suitable for all users of this information.