To be a successful investor, you need to be patient. You need a long-term view, clear goals and some good financial advice. That way, you're more likely to make sound decisions, not impulsive ones.
This is the first in a new series of articles about the investment basics, those key principles you should understand - and follow - if you want to be a successful investor.
One of those principles is diversification. Put simply, it means not ‘putting all your eggs in the one basket'.
Diversifying your investments helps you spread your risks, so that a loss on one investment may be balanced by a gain in another. You can diversify your investment portfolio by mixing up the asset classes, or by investing across different industries or even countries.
Having a spread of investments across a portfolio, such as managed funds, superannuation, an investment property, etc., decreases the likelihood that the entire portfolio's investment returns will suffer as a result of a downturn in one particular asset class. As an example, if diversification is performed correctly across a portfolio, a decrease in the value of an Australian share investment may be offset by the rise in value of an Australian property asset.
All investments are subject to risk and their value will fluctuate due to the performances of financial markets, economic conditions, interest rate movements, fund managers, exchange rates and other global or local factors.
Return on those investments will vary for all asset classes. This is clearly demonstrated in our table, which shows relative returns for a range of asset classes over the past 20 years.
Some asset classes, called ‘growth assets', are more likely to have larger variations - up in value or down - than others. Growth assets include Australian or International shares and property. Growth assets, as the name suggests, are generally expected to grow your investment over time, staying ahead of the inflation rate. While you may experience a negative return every so often, this will usually be more than compensated by solid, occasionally strong returns in other years.
‘Defensive assets' are less volatile than growth assets when it comes to investment returns and are less risky. These assets include cash and fixed interest and, while they offer greater stability, the annual returns are usually lower.
Diversification means not putting all your money (eggs) into one asset class (basket). It means having a mix of asset classes - growth-oriented and defensive - to spread the risk. How you mix these up depends upon what's called your ‘risk profile'. Investors have different risk profiles, depending upon a whole range of factors like their age, their investment objectives, how long they have to invest for, how comfortable they are with market fluctuations, etc.
Understanding your risk profile is a good first step in taking action to diversify your investments. You can do this by talking to an Outlook financial adviser.
Want to know more?
Call Outlook on 1300 657 872 or email firstname.lastname@example.org