"Diversification is an Important Way to Avoid Losing Money"
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What is diversification
If you go to race tracks, I know an easy system that guarantees you will always choose the winner of every race -- bet on every horse in the race!
Now, at the race track that system will make you lose money, because you won't win enough money to pay for your losing bets. The race track takes their share, to stay in business. And that's why betting on horses is a poor way to invest your money unless you're super good both at picking race winners and understanding the odds.
However, in financial investments the line between winners and losers is not so obvious, and that's good.
Just because one company is a winner, doesn't make other companies losers. If they're all making money, then the stock prices of all of them can go higher.
And you can make money by betting on all of them.
That's investment diversification
Say you're convinced the biotech sector is about to boom and you find five companies that look good.
You can buy shares in all five. Or pick the one you think will do the best.
It's true that if you pick the one that will do the best and you're right, you'll make the most money.
But what if that one company is the one where the chief research scientist dies of a heart attack or is closed down by the FDA? You've lost all your money
You just cannot know the future
So it's much smarter to put some money on all five of those biotech companies.
That way, if one fails, but the other four make money, you'll probably still make money. That's some diversification of investments. Even better is to spread your money out among many types of industries.
Diversification applies to many types of investments. You should never place all your money in any one investment unless you're just starting out and you have only a little money anyway.
If you spread your buying out among stocks, that's stock market diversification. You can also include bond diversification, diversification of mutual funds and market diversification and financial diversification of all all kinds.
Again, it's important to understand that diversification strategies are a "lose less" -- not a "win more."
Markowitz diversification is intended to keep us from losing all our portfolio at any one time -- because all financial investments have some volatility.
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