The investment concept that won a Nobel Prize

When investing, you often hear the phrase “don’t put all your eggs in one basket”. So, what exactly do people mean by that?

The idea is that putting all of your money in one particular stock can be risky. This is because the value of the company you’ve bought shares in can go up or down. And if it goes down, your investments go down with it. The eggs that you bought with your hard-earned money may not survive the fall.

So what can you do? Well, one way to mitigate risk in investments is through portfolio diversification. You’ve probably heard of it: it’s everyone’s favourite investing buzzword — and for a good reason!

Let’s start with the definition. Diversification is a risk management strategy that essentially means you spread your money across various types of investments (e.g., shares, bonds) from various geographic areas (e.g., Europe, USA) and various industries (eg., travel, tech) to withstand market fluctuations.

How does this help manage risk? If one of these investments doesn’t perform well, another may be performing better, thereby protecting your portfolio as a whole and potentially offsetting negative returns.

Let’s look at a simplified example. Imagine that before the pandemic you had decided to invest all your money in travel and tourism stocks. But all your stocks plummeted after lockdown was instated, putting your earnings and capital at risk. If, on the other hand, you had diversified your portfolio combining tourism and certain tech stocks, the gains experienced in tech stocks during lockdown could have compensated some of the losses experienced by tourism and travel-related industries.

The key to portfolio diversification is to invest in assets that are not (or not perfectly) correlated with each other so that they will not all be affected by market events in the same way.

So, how can you do this? One easy way is to invest in funds such as Exchange Traded Funds (ETFs). By investing in one ETF, your money can be spread across several assets, depending on the ETF itself. For example, you can invest in all of the companies that comprise the FTSE 100 through a single FTSE 100 ETF. Some investors suggest combining multiple ETFs, typically 5–15, to have sufficiently diversified coverage.

This is an indication only, the actual diversification may vary according to the risk appetite of each investor, as well as the investment size and other variables.

Our portfolios are truly diversified

At ikigai, we provide investors with a selection of diversified portfolios that we built by selecting ETFs with high liquidity and low fees. This means your ikigai portfolio can have a selection of up to 20 ETFs that give you exposure to more than 45 countries.

Diversifying by asset class is also important. So, your ikigai portfolio will further be diversified across bond ETFs and cash, so that you as an investor have better chances of reaching your financial goals.

Harry Markowitz won the Nobel Prize in 1990 for his “Modern Portfolio” theory which he devised all the way back in 1952.

He invented a method to mathematically match an investor’s risk tolerance and reward expectations to create an ideal portfolio that focuses on the diversification of asset classes and securities.

You can learn more about it here.

We built ikigai specifically for those who want to bring their lifestyle to the next level, by taking better care of their finances.

ikigai beautifully combines wealth management and everyday banking in one single app. And by doing so, it creates a whole new world of opportunities.

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When investing your capital is at risk. ikigai is not a bank.

The value of your portfolio with ikigai can go down as well as up and you may get back less than you invested. Returns are not guaranteed and any historical returns, expected returns, or probability projections referenced on our website may not reflect actual future performances. You should seek financial advice if you are unsure about investing.

This article is not advice. ikigai is a trading name of Ikigai Invest Services Limited, a company registered in England and Wales (Company number: 12011662). Ikigai Invest Services Limited is registered with the Financial Conduct Authority (FCA) as an EMD Agent (reference number: 902740) of PayrNet Limited, an Electronic Money Institution authorised by the FCA (reference number: 900594) and is an appointed representative of WealthKernel (reference number: 723719) which is authorised and regulated by the FCA. ikigai is not a bank. Registered address: 16 Great Chapel Street, London, England, W1F 8FL.

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