Diversification

In the previous blog, we understand why we can’t build a team (portfolio) with only batsmen or only bowlers now in this blog we will try to understand the term diversification with the help of some interesting data.

We all heard that nothing is constant except change. The same phrase is also applicable to your portfolio.
We form our portfolio base on our risk profile by taking exposure in different asset classes (selecting different players). But suppose after selecting different players(different asset classes) can we depend on the performance of only one player for the batting or only one player for the bowling?

Obviously not we have to build our team in such a manner that even if one player failed to perform other players should cover that gap. Not all players perform well in all the condition.

Same as with your asset classes no asset class always outperforms the other there are business cycles, government policies and so many other factors which determine which asset class will be going to outperform. Which requires a lot of experience and maturity it is as good as predicting the future.

You can observe that every asset class had been gone through difficult days

Here is the study from 2006 to 2020 which asset class whether equity( domestic or foreign), 10-year bond yield and gold.
You can observe that there are some years in which domestic equity performed badly or in some years outperformed the NASDAQ too and in some period bond outperform the rest of the asset class (the year 2008).

This process of not depending on any single asset class (player) so that your portfolio (your team) should always perform better no matter what weather condition is (business cycle), the country in which you’re playing(foreign diversification) is called diversification.