Diversifying
your
mutual fund
portfolio may be the most fundamentally effective strategy for staying afloat during market downturns — and for staying on course toward your long-term goals, such as paying for a college education or providing a regular source of retirement income. By diversifying, or choosing a variety of investments within each
asset class,
you'll soften the blow to your overall net worth if a specific investment, such as a high profile stock, or a particular
sector,
such as technology or energy, takes a hard hit.
Since most mutual funds are already diversified in the sense that they typically own several dozen securities, they're often viewed as a convenient way to reduce risk. But keep in mind that funds tend to focus on the segment of the market that fits their investment objectives. A fund whose objective is long-term growth through large-company stock buys primarily that type of stock. As a result, the fund is likely to suffer in a period when large-company growth is depressed.
To really protect the value of your investments, you'll have to diversify within each of the assets classes you include in your total
portfolio
— typically stocks, bonds, and cash, though you might also include real estate through a
real estate investment trust (REIT)
or other asset categories. You might achieve diversification by investing in a range of mutual funds that invest in different segments of the total market. Or you might select mutual funds that concentrate in asset classes that you're not investing in individually or in segments of an asset class where you don't own individual investments.
For example, if you own some individual large-company stocks, you might choose mutual funds that invest in small or mid-sized companies. Or if you own some short-term
Treasury bills,
you might select a long-term
corporate bond
fund. But remember that owning several mutual funds that make the same type of investments doesn't increase your diversification as much as owning a variety of funds with different objectives and investing in different segments of the market.
Marc Lackritz
