Question

what stocks.would be needed to create a relatively diversified pirtfolio. mutual funds,etfs,and index funds should be excluded. justify your choiced

Answer 1

The basic objective of diversification is to to reduce the risk associated with fluctuations in the stock market. The portfolio should be designed keeping in view the risk appetite of the investor. Diversification is achieved by including stocks from different sectors/industries (such as information technology, banks and financial industry, power, consumer goods and so on).

An investor may include stocks that have a negative beta along with stocks having beta same as the market (that is, 1) or beta greater than 1 in his/her portfolio. Stocks with negative beta can help in reducing the risk as they tend to move in the opposite direction as compared to the market. Therefore, when the market falls, these negative beta stocks tend to move upward and compensate for the loss suffered in other stocks in the portfolio.

Another way to diversify and reduce the risk is to include the stocks that have a beta of less than 1 but greater than 0 as the movement in such stocks is comparatively less as compared to the market. Therefore, with a fall in the market, these stocks will also decline but not with the same strength.