How important is diversification to investors? Is it equally important to all investors? To whom might it be less important?
Solution
Spreading your money across different types of investments reduces the effect on your overall portfolio if there is a downturn in one investment type. This is called diversification.
Reasons to diversify
The limits of diversification
A well-diversified portfolio provides reasonable protection under normal market conditions. Diversification works because, in general, asset prices do not move perfectly together. However, diversification becomes less effective in extreme market conditions. Generally conditions become extreme when something unexpected occurs. Examples are a market crash or government default. When this happens, markets can become illiquid and the prices of most investments drop.
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How important is diversification to investors- Is it equally important.docx
1. How important is diversification to investors? Is it equally important to all investors? To whom
might it be less important?
Solution
Spreading your money across different types of investments reduces the effect on your overall
portfolio if there is a downturn in one investment type. This is called diversification.
Reasons to diversify
The limits of diversification
A well-diversified portfolio provides reasonable protection under normal market conditions.
Diversification works because, in general, asset prices do not move perfectly together. However,
diversification becomes less effective in extreme market conditions. Generally conditions
become extreme when something unexpected occurs. Examples are a market crash or
government default. When this happens, markets can become illiquid and the prices of most
investments drop.
