The secret benefit of Diversification #IntelligentInvestor




Basics

Let's say you invested all your money by picking 10 different stocks in automobile sector. If government announces any policy like changes in taxes, upgraded crash norms, new engine standards etc., this can have huge impact on company's performance, at-least in short term.

Imagine, if you had diversified your investments across sectors like automobiles, IT, agriculture, construction, Retail, Oil & Gas etc. you wouldn't have got affected as much as you have in the first case.

In simple words, Diversification means spreading your investments across different companies/sectors/countries.

FYI, there are some mutual funds which invest in countries like United States, China, and other emerging markets. You can take advantage of these funds for diversification across countries as well.


Known Benefit


Common sense tells us that diversification helps us reduce the risk of our investments.

Thus, probability of you losing your capital is reduced drastically as you diversify more.



Secret Benefit


There is another important benefit which diversification offers which people often tend to ignore.

When you diversify, your chances of winning also increases!!

Let's say you bet on 5 auto company stocks instead of just one company and who knows which one of them will outperform to emerge as a industry winner.

This is a real case with Eicher Motors (the company which sells Royal Enfield Bike). Until 2009 this name was unheard and no one ever thought it would grow at such a mind-blowing pace; multiplying investor's wealth by more than 13000% => if you had invested 1 Lac in 2009 you would now have more than 1.3 Crores!!!

You would have missed this opportunity if you had invested in just one stock from the sector which wasn't eicher!!


Take Away


Diversification is important and please don't park all your money in just one or two stocks. 
Make sure to diversify across different stocks/sectors/regions.


Extreme Case


Some people tend to do extreme diversification by buying 100's of stocks, which is insane because you cannot track that many company's performance unless you are a perfect stock ninja๐Ÿ˜‰. So better stick to what you can handle.

General rule of thumb is to diversify to around 10-20 stocks and around 5-7 mutual funds.



This blog post is part a new series "Intelligent Investor".
Where we share our learnings from one of the best books on investing called "Intelligent Investor" by Benjamin Graham (aka Father of Value Investing).
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