Tuesday, August 7, 2012

Is there such a thing as overdiversification?

Most personal financial advice recommend that investors diversify. I agree; but come to think of it, is there a point where your investments become too diverse without any real benefits? For instance, there was a study that showed owning more than 20 shares in your stock market portfolio would provide very little risk reduction. Owning just one share is risky, when you own 2 shares, you have reduced the risk significantly. When you own 3 shares, the risk is reduced even further. But owning your 21st or 101st share only reduces your risk by a tiny amount. Limiting the number of shares you own would also force you to think hard on which companies to buy and get to know them better.

This would also apply to mutual funds and UITFs. There are plenty to choose from but there is no need to divide your money into all of them. Perhaps choosing 3-4 would offer enough diversification. Real estate can also become overdiversified. Why not sell some of your less expensive properties and buy a few really good ones. There is really no need to own 10 currencies even if banks like HSBC and Citibank offer multi-currency accounts. Maybe having 2-3 currencies aside from the peso would be enough to reduce risk.

Diversification is essential to protect your investments. As they say, don't put all your eggs into one basket. But carrying too many baskets would be quite cumbersome as well. Happy investing!

3 comments:

  1. This is easy you can never be over diversified.

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