04/09/2018: Why it’s important to have a diverse investment portfolio.
Diversifying your investment portfolio is one of the best strategies for reaching your long-term financial goals. It protects you against market fluctuations, helps you manage risk, and reduces the volatility of your assets. While it can take time and careful planning to diversify, the returns are almost always worth it.
Why should you diversify?
Since different financial instruments and assets react differently to market events, it’s important to spread out your interests. This hedges your investments, meaning that when some of your assets go down, others should offset those losses by gaining value.
Here’s an example of hedging: Let’s say you own stock in two companies, one that produces electric cars and another that sells gasoline. During favorable market conditions, both might produce good returns. Then the federal government passes legislation offering a tax credit to people who purchase electric cars, so the electric car company stock goes up considerably because there’s an expectation they will sell more vehicles.
But for every winner in the stock market, there’s usually a loser—in this case it might be the gasoline company. So while you lost money on that stock, you’ve hedged against those losses by investing in the electric car company.
Remember that you can’t use diversification to hedge against all risks. Some risks—like political instability, interest rate fluctuations, and natural disasters—are difficult if not impossible to hedge against because they are unpredictable and can affect all markets.
Here are some types of investments to consider.
You have lots of options when it comes to choosing how you want to build your investment portfolio. Here are some of the most popular:
Stocks: When you own a stock, you own a piece of a company. Most large businesses offer stocks that can be purchased on exchanges like the New York Stock Exchange and the NASDAQ. Stocks can be a medium- to high-risk investment.
Government Bonds: Government bonds are historically low-risk, and are a debt contract between you and the federal government. In exchange for your investment, the government promises to pay you back—with interest—by a certain date. People often invest in bonds when stock prices are down, and market volatility is high.
Investment Funds: Investment funds are comprised of a basket of stocks and assets that a group invests in collectively. These include mutual funds and exchange traded funds. There are countless types of investment funds for every risk appetite.
Commodities: Investing in commodities involves buying and selling contracts for a wide range of products, including livestock, metals, oil, gas, corn, soybeans, and more. These can be low- to high-risk investments depending on market conditions.
Precious Metals: Purchasing precious metals can be an excellent hedge against an economic downturn. Gold in particular tends to perform well during times of uncertainty, and can be purchased via contracts or in tangible form.
How can a bank help you reach your investment goals?
With all the investment tools listed above, you might be wondering if there’s anything your bank can do to help you reach your financial goals. In addition to providing investment services, here are a few options:
Checking Accounts: Checking accounts provide a convenient way to keep track of money and expenses. They are an excellent option for storing cash, which is important because not all of your money should be tied up in investments.
Certified Deposits (CD): A certified deposit is a cash deposit that you give the bank which can’t be withdrawn (without paying large penalties) for a certain period of time—often one to five years. The bank pays guaranteed interest on the deposit.
Money Market Accounts: A money market account is similar to a savings account, but pays more interest. These accounts typically have higher minimum deposits.
Before you make any large investments…
It’s always a good idea to speak with a financial advisor. They can help you determine your risk tolerance, and the right strategy for your financial situation. They’ll also help you diversify your investment portfolio in a way that should mitigate your risks while maximizing your returns.
If you’re interested in learning more about checking/savings accounts, certified deposits, money market accounts, investment services, or other ways we can help you achieve your financial dreams, contact our team at Prospect Bank today.