Wise financial diversification key as 2015 unfolds
In the grand theater of investing, 'consistent' and 'steady' are watchwords
The term diversification can take on any number of meanings, I suppose. In the investing world, diversification refers to the allocating of ones assets across multiple varieties of assets. The theory being, these varieties arent perfectly correlated. This tends to reduce variability, and thats a good thing. But its not always clear what we mean when we use the term diversification.
I remember early in my career, asking someone how diversified his assets were, and his response was something close to Oh, Im very diversified. I have CDs at five different banks!
It is a humorous anecdote, but the reality is, perhaps its not always clear to the average investor what most advisors mean when they stress the importance of diversifying ones assets. And whether the economy is shrinking or growing, the reality is, well-diversified assets give us a strong opportunity for achieving long-term financial success. An appropriate mix of growth-oriented investments, less-volatile investments, and both U.S. and international investments tends to be a very good way to broadly diversify ones assets and can be done fairly easily through the use of mutual funds.
But how do we know how much of each one of those varieties to use? Do we use the economys health as a guide?
Lets look at the economy for a moment. According to the JP Morgan Guide to the Markets (fourth quarter, 2014), The market is up 192 percent since we hit the lowest of lows back in March of 2009 prior to the start of the recovery. Unemployment is under 6 percent, and consumer sentiment (a measure of consumer confidence in the economy) is right at our 40-year average (84.6 percent).
It is safe to say that the U.S. economy has recovered from the recession of 2008, and is growing adequately. But what does that mean for an investor? Are we supposed to take our long-term investment cues from the economy, in terms of when to invest a certain way, or assume varying levels of market risk? I assert not.
The decision to assume more or less risk in ones long-term investments should be dictated by where each investor is in his or her investing life cycle. For those who are creeping up on retirement, being more prepared for sudden, unexpected market downturns in the short-term that could potentially derail retirement plans is certainly appropriate. For those who have 20 or more years of accumulating wealth, assuming more risk in ones portfolio has proven beneficial in the long-term.
There is simply more time to withstand market downturns, and more time to enjoy the fruits of compounding interest. It seems overly simple, but the reality is, markets are up more than theyre down. Because of that, staying invested is important, as is using diversification to ones advantage.
I close by sharing an analogy of undiversified vs. diversified investing, which I draw upon often, with something Im becoming more familiar with by the day: a 16-year old daughter. If youve ever had one, this will make perfect sense. Her world is very simple; there is no middle ground. Her day is either the best day shes ever had in her lifes young history, or the single worst day known to humankind. Now, the converse of this is my late grandfather. His highs were never too high, his lows never too low. Consistent. Steady. Wise.
In the grand theater of long-term investing, who would you rather have playing the part of your portfolio?
T.J. Buehler is an Investment Advisor Representative with WSC Financial Services in Forest Grove.Add a comment