Many people equate investing with risk and are scared off entirely because they cannot stand the thought of a potential loss, ignoring the old adage: “Nothing ventured, nothing gained.” The benefit of risk, however, is the potential for meaningful gains. While there is no way to eliminate the risk of loss entirely, there are tried-and-true methods to mitigate investment risk.

The most touted risk mitigation technique is portfolio diversification. A diversified portfolio composed of a variety of investments -- covering exposure to different asset classes, industries, geographies, etc. -- is never too dependent on a positive return from any one investment. If some investments experience losses, it’s possible that others will enjoy gains, and the risk that all your investments lose money at the same time, and to the same extent, decreases with increased diversification, thereby increasing the stability of the overall portfolio performance.

Benefits of Portfolio Diversification

Compounding returns and avoiding losses are key factors in growing your portfolio over time. Diversification can help protect you from big losses.

That’s because it’s relatively rare that you’ll experience serious declines across multiple assets and asset classes. For instance, if the stock market crashes, government bonds are unlikely to take the same kind of hit.

Here are some of the biggest benefits of diversifying your portfolio:

  • Reduce exposure to market volatility: If you only invested in the stock market, your investment portfolio will be highly exposed to market volatility, which can experience wide and sudden swings as investors react to global events and trends. By diversifying your portfolio and adding non-market-correlated assets (e.g., real estate, cryptocurrency, etc.), your exposure to market volatility may be reduced.
  • Achieve long-term goals: Timing the market (i.e., buying low and selling high) can be exceptionally hard to do consistently, even for the most experienced investors, and generally is not a recommended strategy. Most financial advisors suggest a buy-and-hold approach, choosing investments where you see long-term value. A well diversified portfolio is likely to outperform even the luckiest market-timing investors over the long-term.
  • Greater peace of mind: This is perhaps the best and most important argument in favor of diversification. The less reliant your portfolio is on the performance of a single investment, the less you’ll likely worry about daily ups and downs.

How to Diversify Your Portfolio

So now you understand why diversification is important but may still be wondering how to get started. Let’s look at three steps you can take to begin diversifying your portfolio.

Create Your Investment Plan

Hopefully, you already have an investment plan but if you don’t, it’s time to get started. Define your investing goals and what kind of time frame you’re working with. You also need to outline what level of risk you’re comfortable with.

The level of risk you’re willing to take really depends on how soon you’ll need the money. Since the stock market is more volatile, this is ideal for investors that have the time to wait out the ups and downs of the market.

On the other hand, if you plan to retire within the next five to 10 years, you probably don’t want to take any big risks with your portfolio. In that case, you’ll want to choose a safer mix of investments that are less susceptible to market volatility.

Diversify Within Your Investments

Not only do you want to diversify your assets, but you should also diversify within each asset category. For instance, let’s say your portfolio is a mix of stocks, bonds, and commercial real estate. You should also consider diversifying within each of these asset categories.

You’ll do this by investing in assets in a variety of different types and sizes. For example, if you’re investing in companies, you should look for companies in a variety of different industries or an index fund or mutual fund that invests in multiple companies on your behalf.

Likewise, you may want to consider diversifying your real estate investments across multiple properties either through direct ownership or investing in a real estate investment trust (REIT). That way you’re giving yourself an opportunity for higher returns while still protecting your portfolio from risk.

Continue to Monitor Your Plan

Your investment plan is an ongoing process and it's prudent to continually monitor and update it. Some investors prefer to rebalance their portfolio once every quarter, while others prefer to do it on an annual basis in order to review investment performance and determine if they’re still comfortable with the current level of risk.

Many investors also revisit their investment strategy at least on an annual basis to see if it still makes sense for their current financial situation. This is especially important whenever an investor’s financial circumstances change in a significant way.

It can be helpful to work with an investment professional to manage your portfolio. That person can help you manage your assets and help you determine when it’s time to get out of a particular investment.

Things to Keep in Mind

Diversification is important, but it’s not a silver bullet and will never guarantee that you don’t experience some losses. While it can offer some protection, diversifying your portfolio can never fully protect you from a market decline.

There’s also a fine balance when it comes to diversifying your portfolio. You want to diversify enough so that you’re not putting all your eggs in one basket, but you never want to spread yourself too thin. It is possible to diversify too much and as a result, miss out on long-term growth.

As an investor, you’re always going to be exposed to some level of risk. Recognizing this, then thoughtfully diversifying your portfolio across a variety of investments in which you see long-term value potential is a tried-and-true strategy to balance risk with reward while preserving your peace of mind.

This information is for educational purposes only, and is not intended to represent investment, tax, or other financial advice. Please consult a qualified tax professional regarding the applicability of the above to your personal situation and the specific requirements and limitations of the above.

The views and opinions expressed in this commentary reflect Modiv Inc.’s (together with its affiliates, “Modiv”) beliefs and observations in commercial real estate as of the date of publication from sources believed by Modiv to be reliable and are subject to change. Modiv undertakes no responsibility to advise you of any changes in the views expressed herein. No representations are made as to the accuracy of such observations and assumptions and there can be no assurances that actual events will not differ materially from those assumed. The forward-looking statements in this paper are based on Modiv’s current expectations, estimates, forecasts and projections, and are not guarantees of future performance. Actual results may differ materially from those expressed in these forward-looking statements, and you should not place undue reliance on any such statements. These materials are provided for informational purposes only, and under no circumstances may any information contained herein be construed as investment advice or as an offer to sell or a solicitation of an offer to buy an interest in any Modiv program or offering. Alternative investments, such as investments in real estate, can be highly illiquid, are speculative, may not be suitable for all investors, and there is no guarantee that distributions will be paid.