What is diversified investment portfolio?
I have always encountered questions from my clients on why invest in so many funds. So, I have decided to write about this topic. Many are looking for return for their investment. Hence, investment risks are being overlooked, if not ignored. The right way for long term investment with stable growth shall be a diversified investment portfolio. Investment is a game of probability. There is no guaranteed win. To ensure long term gain, it needs to consider the risk to reward ratio and the probability of winning.
If the risk to reward ratio is 5:5, as long as the probability of winning is higher than losing, you will win in the long term. For example:
Investment 1: 75% winning probability, expected return is 10%, expected loss is 10%. The gain calculation = 75% x 10% + 25% x (-10%) = 5%
If the winning probability is 50%, expected return is 10%, expected loss is 10%. The gain calculation = 50% x 10% + 50% x (-10%) = 0%
If the probability of winning and losing is the same, then it is down to the risk to reward ratio to make sure the winning in long term. Say the possibility of the investment win and lose is both 50%. Hence the return percentage must be higher than the losing percentage for one to yield positive return. Example:
- Investment 1: lose 20%
- Investment 2: earn 50%
- Investment 3: lose 20%
- Investment 4: earn 30%
In this case, even though there are 2 losing investments and 2 winning investments, the overall portfolio is earning money.
This is the reason why diversified investment portfolio is crucial for one’s investment success. If one only invests into single item at single time. The chance of winning is 50%. If he/she has done some research, maybe the probability of winning is higher. Still, it is not certain.
A diversified investment portfolio into several countries, several sectors is the way to ensure risks are being mitigated. Despite some investments are not performing, as long as the percentage of earning is higher than losing, or the probability of winning is higher, the investments will do good in long term. Coupled with market research, the probability of winning hence being increased.
Example of the diversified balance investment portfolio is as follow (this is the example of iFast managed portfolio):-
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