Question

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Why is it important for people who own stocks and bonds to diversify their holdings? Discuss?

Answer 1

Diversification is a technique where people who invest in stocks and bonds can reduce the risk of loss which they face by invesing in a specific stock or bond and fluctuation in there prices. diversification means a portfolio investment where one reduces risk by allocating investments among various financial instruments, industries, and other categories and also ensuring a higher return.  The more uncorrelated your stocks are, the better. A sudden unseen contingency like inflation,political instability might affect the stock market. But once we invested in a diversified portfolio then risk of loss is minimised. The allocation should be based upon investment goals, tolerance for risk, and time horizon for needing the use of the money. Mutual funds make such diversification easy by allowing a small investor to purchase parts of hundreds of different stocks and bonds.The value of any single stock or bond is tied to the fortunes of one company, so holding a single kind of stock or bond is very risky. People who hold a diverse portfolio of stocks and bonds face less risk because they have only a small stake in each company.