Happy Phriday!!!
Diversification is an essential principle when it comes to investing. If you have some questions on investing take a look at Investing 101. To be clear, diversification is the process of a business enlarging or varying its range of products or field of operation. Most people hear about diversification in terms of stocks which is a key in building wealth. Items such as mutual funds, index funds, and ETFs are examples of diversified investments via the stock market. The types of investment are explained below (definitions from investor.gov):
Mutual Funds - A mutual fund is a company that pools money from many investors and invests the money in securities such as stocks, bonds, and short-term debt. The combined holdings of the mutual fund are known as its portfolio. Investors buy shares in mutual funds. Each share represents an investor’s part ownership in the fund and the income it generates.
Index Funds - is a type of mutual fund or exchange-traded fund that seeks to track the returns of a market index. The S&P 500 Index, the Russell 2000 Index, and the Wilshire 5000 Total Market Index are just a few examples of market indexes that index funds may seek to track. A market index measures the performance of a “basket” of securities (like stocks or bonds), which is meant to represent a sector of a stock market, or of an economy. You cannot invest directly in a market index, but because index funds track a market index they provide an indirect investment option.
ETFs - ETFs are a type of exchange-traded investment product that must register with the SEC under the 1940 Act as either an open-end investment company (generally known as “funds”) or a unit investment trust. Like mutual funds, ETFs offer investors a way to pool their money in a fund that makes investments in stocks, bonds, or other assets and, in return, to receive an interest in that investment pool. Unlike mutual funds, however, ETF shares are traded on a national stock exchange and at market prices that may or may not be the same as the net asset value (“NAV”) of the shares, that is, the value of the ETF’s assets minus its liabilities divided by the number of shares outstanding.
Although each of these investments illustrate diversification in their own right they are all in the stock market. Which means you may be diversified in the stock market but your overall finances are not diversified. Remember, finances have to be viewed holistically.
This means we should look to properly diversify your finances as much as possible. Along with having mutual funds and/or other stock market investments, look into real estate investments (buying a home and/or rental properties), having cash for your emergency fund (up to 6 months of expenses), and other types of income producing assets such as residual income or side businesses. All of these items add up in your net worth and if obtained with no debt can greatly increase wealth.
From the example above the importance of diversification can be seen. As the stock market fluctuates different than the real estate market having money in different investments is beneficial. When one is up the other may be down but your net worth won't be destroyed. If markets are down your side/full time business could be booming. The idea is to "Give a serving to seven, and also to eight, For you do not know what evil will be on the earth." Please, choose Faith Over Fear for your Finances and use diversification for your investing.
Picture credit: here & YouVersion Bible
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