One of the most important themes in investing is building a portfolio.

According to

Investopedia, an investment portfolio can be thought of as a pie that is divided into pieces of varying sizes, representing a variety of asset classes and/or types of investments to accomplish an appropriate risk-return portfolio allocation.Many different types of securities can be used to build a diversified portfolio, but stocks, bonds and cash are generally considered a portfolio’s core building blocks. Other potential asset classes include, but aren’t limited to, real estate, gold and currency.There are two contradictory schools of thought on portfolios. The most frequently repeated one is “Don’t put all your eggs in one basket”. You would, of course, be tired of hearing this one.Conversely, a quote attributed to Warren Buffett was “Put all your eggs in one basket and then watch that basket very carefully.” However, he apparently also said that “Diversification is protection against ignorance.”The truth is that overdiversification is counterproductive, but most ordinary people do not have the power to invest in just one thing and “watch the heck out of it!” Generally there is very little control that a small investor will yield, and therefore they simply accept management decisions. This means that the only recourse left to a small investor is to diversify. 

DIVERSIFYING AMONG ASSET CLASSESA diversified portfolio across asset classes would most likely include bonds, stocks, real estate, cash and perhaps some funds. And this would be very good in theory, but it is important to note that this doesn’t guarantee any protection for your portfolio. For example, if you are invested in oil bonds, oil stocks, and oil mutual funds, there is a lot of exposure there! 

DIVERSIFYING AMONG SECTORSTrue diversification should ensure that the exposure is allocated across different sectors. The main sectors would include financials (banks, insurance companies, investment houses etc.), energy (oil, solar companies etc.), entertainment and media companies, technology companies, construction companies, and the list goes on.Most investors have a love/hate relationship with financials. They constantly criticise the enormous profits made by banks, but most portfolios contain the highest weightings in these same banks, whether through stocks or bonds. This is because they are usually disproportionally successful when compared to other sectors. Naturally, investors will gravitate towards companies that are doing well. 

DIVERSIFICATION AMONG REGIONSDo a little mental exercise. When you hear people call out the following places, what comes to mind? Venezuela, Suriname, Brazil, Europe, United States, Mexico, Norway.I am throwing these names out, because investments in Sovereign bonds (issued by the country) or Corporate bonds (issued by companies in these countries) have very wide-ranging risk profiles.Norway, for example, is a AAA-rated country by S&P, and this is the highest (safest) rating that is assessed. Contrast this with Venezuelan debt which is rated CCC by S&P, implying a high risk of default. This means that the risk profile of your portfolio will depend to a large extent on where your investments are domiciled.Diversification is possible even when you are a small investor. While it is sometimes advisable to take some time to save before starting your investment portfolio, there are still investment options that are possible through investment funds, whether investing in them directly or through the stock market.When building your bond or stock portfolio, try to ensure that you are not too heavily weighted in any one sector. But as with everything, balance is the key. Don’t go overboard when crafting it, but make certain it is deliberately constructed – no hodgepodge investing for you! 

Yanique Leiba-Ebanks, CFA, FRM is the AVP, Trading & Business Development at Sterling Asset Management. Sterling provides financial advice and instruments in US dollars and other hard currencies to the corporate, individual and institutional investor. Visit our website at www.sterling.com.jm Feedback: If you wish to have Sterling address your investment questions in upcoming articles, e-mail us at: info@sterlingasset.net.jm