July 10, 2018
IT’S ONE OF THE BASIC RULES OF INVESTING: diversification is a key to help balance risk and reward. And this year, with volatility a recurring feature of the markets, it’s more important than ever.
“We continue to believe that a well-diversified portfolio is the most effective way to manage risk and take advantage of opportunities under today’s market conditions,” says Chris Hyzy, chief investment officer of Global Wealth & Investment Management at Bank of America Merrill Lynch, in his “Mid-Year Outlook” video and Q&A.
A well-diversified portfolio is diversified not only across asset classes, but also within them. That’s often called “deep diversification.”
For a snapshot of current market conditions, take a look at the slideshow above. And for a refresher on what it means to be “well-diversified,” check out the following explanation. Then schedule some time with your advisor to discuss whether you need to make any adjustments.
What is diversification, and why is it so important?
You’ve probably heard the expression, “Don’t put all your eggs in one basket.” Well, when you diversify, you’re spreading your investments across different baskets, or asset classes, in an attempt to reduce your overall risk.
A diversified portfolio is one that holds multiple types of assets—not just stocks, but also bonds, and possibly even commodities, as well as cash and cash equivalents like savings accounts and CDs. Because different asset classes tend to respond differently to conditions like rising interest rates or inflation, when one type of asset loses value, there’s a good chance that others in your portfolio may remain steady or even increase in value.
“For each of these asset classes, there are different expected returns and risks,” explains Nick Giorgi, Investment Strategist in the Chief Investment Office. “When they're combined in a way that provides your portfolio with both the possibility of growth and potential protection against loss, then you benefit from what is known as diversification.”
A well-diversified portfolio is diversified not only across asset classes, but also within them. That’s often called “deep diversification.” Says Hyzy, “That means holding high-quality large-company stocks spread across multiple sectors.” The technology sector might be having a bad week, for instance, but the health care or manufacturing sectors could be surging. By owning stocks in all three sectors, you can still pursue growth.
But deep diversification doesn’t stop there. Investing in stocks from small- and mid-sized companies, as well as in international companies or emerging markets, can help you spread risk more evenly among equities.
Don’t forget bonds
Stocks are a critical part of most investment portfolios, but, as Hyzy explains, investing in bonds may be the key to being truly diversified. That’s because the bond market typically moves in a different direction from the stock market, so it can act as a counterweight to stocks during periods of volatility.
“Here, too, you need good diversification within the various kinds of bonds, including Treasuries, municipal bonds and high-quality corporate bonds,” he explains. In today’s market, with interest rates continuing to rise, he emphasizes that focusing on bonds with shorter maturities can help you better manage potential risks.
With volatility likely to continue, diversification can help you navigate whatever the market brings.
Watch "Mid-Year Outlook: Why We’re Still Bullish on the Markets" and read "Mid-Year Outlook: Bright Spots, New Risks" for more insights from CIO Chris Hyzy.
Our financial advisors are committed to putting your investing needs, wants and priorities first. Here’s how you can get started with an advisor.
Then we can provide you with relevant answers.Get started