What is Diversification?

Full Definition

Diversification is the practice of spreading investments across different asset classes (shares, bonds, property, cash), sectors, and geographic regions so that a poor outcome in one area does not disproportionately damage the whole portfolio. It works because different assets do not all move in the same direction at the same time -- when shares in one sector fall, bonds or shares in another sector or country may hold steady or rise, smoothing overall returns. Diversification does not guarantee a profit or eliminate the risk of loss altogether, and it cannot protect against a broad market-wide downturn that hits most asset classes together, but a well-diversified portfolio should carry less risk than a concentrated one for a similar expected return, which is why it is a core principle behind multi-asset funds, target-date pension funds, and standard investment advice. In the UK, common ways to diversify without excessive cost or complexity include holding a global tracker fund or Open-Ended Investment Company (OEIC) rather than shares in a single company, spreading savings across a Stocks and Shares ISA and cash savings, and rebalancing periodically so that one strong-performing holding does not grow to dominate the whole portfolio.

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