Diversification

Investments

Diversification means spreading investments across different assets, sectors, and geographies to reduce risk. When one investment falls, others may hold steady or rise, cushioning overall portfolio decline. "Don't put all eggs in one basket."

In detail

Types of diversification:nAsset class: equity + debt + gold + real estatenWithin equity: across sectors (IT, FMCG, Banking, Pharma) and market caps (large + mid + small)nGeographic: Indian equity + international equity (US, global)nTime: SIP diversifies across time (rupee cost averaging)nnCommon Indian mistake: all equity in 3-4 IT stocks, or all in FDs with one bank. Concentration creates unnecessary, uncompensated risk.

Formula

Portfolio variance with 2 assets:n= w1^2 x s1^2 + w2^2 x s2^2 + 2 x w1 x w2 x s1 x s2 x correlation

Real-life example

🇮🇳 India example

Ramesh had Rs 20L in IT stocks only (Infosys, TCS, HCL). 2022 IT correction: portfolio down 35%. If he had 40% IT + 30% BFSI + 20% FMCG + 10% pharma, overall decline would have been approximately 18% -- half the damage from same market event.

Frequently asked questions

Can you be over-diversified? ▼

Yes. Holding 20+ mutual funds often means excessive overlap and underperformance from complexity. 5-7 funds across different categories is optimal. True diversification is across asset classes, not just holding many similar funds.