Diversification helps mitigate risk in a portfolio from "summary" of Institutional Investment Management by Frank J. Fabozzi
Diversification is a key strategy employed by institutional investors to manage risk in their portfolios. By spreading investments across different asset classes, industries, and geographic regions, investors can reduce the impact of any single investment underperforming or failing. This is based on the principle that not all investments will move in the same direction at the same time. The main idea behind diversification is to create a portfolio that is less susceptible to market volatility and downturns. This is because different investments may react differently to changes in the market environment. For example, during economic downturns, certain industries may perform poorly while others may remain stable or even thrive. By holding a mix of investments, investors can potentially offset losses in one area with gains in another. Furthermore, diversification can also help to mitigate specific risks associated with individual investments. For instance, investing in a single company exposes an investor to company-specific risks such as management changes, product failures, or legal issues. By spreading investments across multiple companies, these risks are reduced as any negative impact on one company is unlikely to have a significant effect on the overall portfolio. In addition, diversification can help investors achieve a more consistent return over time. While some investments may experience short-term volatility, a diversified portfolio is better positioned to weather market fluctuations and deliver more stable long-term returns. This is particularly important for institutional investors who have long time horizons and specific return objectives to meet.- Diversification is a fundamental strategy for managing risk in a portfolio. By spreading investments across different asset classes, industries, and regions, investors can reduce the impact of adverse events on their overall portfolio performance. This approach helps to create a more stable and resilient investment portfolio that is better positioned to achieve long-term financial goals.
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