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The stock market investment journey is often compared to a roller coaster ride, given its volatile nature and price swings that occur during uncertain times. Among many tools that investors deploy to safeguard their portfolios from volatility, diversification is commonly used and one of the most effective.

Diversification is the practice of investing in a variety of different assets, such as stocks, bonds, and commodities, rather than putting all of your money in one investment. Ever heard “Never put all eggs in one basket”? Well, diversification works on the same principle. It is recommended because it helps to reduce the overall risk and stabilize returns amid high volatility in the market and takes advantage of different market cycles and trends.

There are certain ways for investors to effectively and strategically diversify their portfolios. One method is asset-level diversification which refers to the process of diversifying your investments into various asset classes. This method of diversification is considered to be one of the core principles of financial planning.

Asset allocation diversification

Diversifying your portfolio by investing in equity, debt and commodities can prevent large swings in value. This can help investors stay invested for a longer period of time. In a diverse portfolio, the returns from one asset class can balance out poor returns from another investment, offering stability and growth. It can also reduce the overall risk and impact of volatility. Along with it, diversification also helps investors beat inflation, which is one of the primary goals of investing.

Diverse asset allocation can also prove vital in long-term wealth creation for investors. Investors should also allocate a small part of their capital to certain unconventional asset classes like global investments. This can help an investor benefit from potential growth while keeping their risk and exposure to a minimum. With a portfolio spread across different asset classes, investors can also reassess and reallocate their capital in order to benefit from the different market conditions.

The allocation of capital into different asset classes depends on the investor’s goals and risk profile.

Equity portfolio diversification

The equity portion of the portfolio can further be diversified in various companies spread across several sectors and industries. It helps avoid concentrating a major chunk of investment money on a particular company or sector. This is useful as it can mitigate the risk and prevent overexposure to a particular sector.

However, portfolio concentration is a viable option if an investor has high conviction and has done thorough research and analysis. Many fund managers concentrate their portfolios in order to generate alpha. Alpha refers to the excess returns over the benchmark index. Portfolio concentration is an approach which is most suited for seasoned investors. Having a concentrated portfolio can increase the total risk undertaken.

Conclusion

The stock market is an ever-changing beast. Participants may find it challenging to stay afloat in the choppy waters of volatility. However, savvy investors use diversification as a tool to mitigate the risks associated with stock market volatility and gain a competitive edge. By spreading out their investments across a variety of assets, investors can better protect themselves from sudden market downturns, while also taking advantage of the potential for growth. With the right approach, diversification can be a powerful tool for creating a well-balanced portfolio that can weather any storm.

Disclaimer: Investment in securities market are subject to market risks. Read all the related documents carefully before investing. Please refer the Risk Disclosure Document issued by SEBI and go through the Rights and Obligations and Do’s and Dont’s issued by Stock Exchanges and Depositories before trading on the Stock Exchanges. Brokerage will not exceed the Exchange prescribed limit.