Don’t put all your eggs in one basket. Does that sound familiar? There is one word that seems to be found in every investor’s vocabulary, and that is diversified. It seems to be the word that everybody feels comfortable using when there’s a conversation going on about the market or investing: “Yes, well I am diversified.” Instantly you feel like you should be sitting down for lunch with Warren Buffet discussing the opportunities that will arise in the next 3 quarters…
But how diversified are you? The common view on having a diversified portfolio is to have investments of different risk class and have your money weighted either aggressively or conservatively within that portfolio. For Example:
Your portfolio has 35% of its money invested in Canadian Energy (aggressive) and 65% of its money invested in Bonds (conservative). That is almost exactly how your portfolio should be arranged. 🙂
Here is the diversification blunder that most investors make, and it is something I see often. Here is an example of a portfolio that I may see:
Fund Company RBC
Fund Manager RBC
15% RBC Canadian Energy Fund
30% RBC Balanced Fund
30% RBC GICs
10% RBC US Equity Fund
15% RBC Specialty Fund
Do you see the diversification blunder?
You may have said that the percentages don’t look quite right, and that might be correct but without understanding the type of investor John Smith is we don’t really know how aggressive he should be.
That is the biggest mistake both advisors and investors make: looking only at diversification within the percentages. You need to expand your diversification view by looking up a few more levels. This is what I mean.
To have a properly diversified portfolio you need to be diversified in four different areas:
- Risk Weighting (aggressive/conservative)
- Geographically (Canadian/international)
- Fund Managers
- Fund Companies
In the example of John Smith he had 1) and a stab at 2). He had aggressive and conservative funds and he had also invested a little into a US fund. The biggest issue is that John’s portfolio is managed by four fund managers, all with RBC and one fund company within RBC. What this means is that those four fund managers all have the same style of investing, the RBC way of investing. And all of John’s money is with the RBC fund company.
I illustrate it this way: John may have his eggs all in different baskets but those baskets are all in the same car (RBC fund company), being driven by one driver (RBC fund managers).
So, then, how should John fully diversify? Well, simply, he needs to put his many baskets of eggs into different cars being driven by different drivers. He should have four to five different fund companies within his personal portfolio managed by different portfolio managers with distinct styles of investing. Why is that a good idea?
In simple terms, if you’re only in the RBC car, you better be hoping it doesn’t run out of gas, or, even worse, crash.
Beyond protecting yourself, by diversifying more than just the percentages, you’re building a portfolio that you could proudly talk to Warren Buffet about.
Is your portfolio diversified?