Diversification: why it matters to investors

This communication is for informational purposes only and is not intended to constitute, and should not be construed as, investment advice, investment recommendations or investment research. You should seek advice from a professional adviser before embarking on any financial planning activity. Whilst every effort has been made to ensure the information contained in this communication is correct, it is subject to change and we are not responsible for any errors or omissions.

Diversification may sound like a complex word. Yet, at its heart, it is talking about “spreading out your risk” when choosing investments. It is a vital principle to building and growing a portfolio over time. Below, our Murcia financial advisers here at Scottsdale explain how diversification works, why it matters to investors and how expats can apply the principles to their portfolios.

We hope these ideas and insights are useful to you. If you want to discuss your financial plan with us, please get in touch to arrange a no-obligation financial consultation, at our expense:

+34 966 460 407

What is diversification?

If you received £10,000 suddenly as an inheritance and wanted to invest it, where would you commit the money? Some may be tempted to invest in a single company stock (e.g. one listed on the FTSE100 or S&P500), convinced that its price is about to “explode”. However, doing this carries a heavy investment risk. What if the stock “crashes” shortly after your investment, despite all your research and conviction?

Instead of committing the £10,000 to one stock, an investor could allocate it to multiple companies, perhaps dozens or hundreds. This way, if one (or a few) of the individual companies fall in price, the others can provide “buoyancy” to the overall performance of the portfolio. An investor could choose to buy all these companies individually. Or, they could buy “collections” of companies by buying equity funds (pooling their money with other investors).

This is just one way of diversifying a portfolio – i.e. within a specific asset class (in the above example, equities). However, an investor can take this principle several steps further by diversifying across other asset classes such as bonds, cash and real estate. Risk could also be “spread out” over various sectors, industries and geographies.


Why does diversification matter?

Diversification helps investors mitigate some of the risks associated with a single company, market or country/region. This does not mean that an investor can avoid market risk by diversifying their portfolio. The value of your investments can still go up and down, and you may get back less than you originally invested. However, diversification can help lower the financial and business risks associated with a specific geography, company or economy.

For instance, suppose there is a market crash in the UK. If an investor has all of his/her portfolio tied up with UK equities, this portfolio is likely to be more volatile than a portfolio with investments in multiple countries (which may not be experiencing economic instability).

How can expats make use of diversification?

Diversification requires striking a careful balance. It can be cumbersome to manage a large portfolio. Also, the more investments you hold, the more buying and selling may be required to rebalance your portfolio to keep it aligned with your strategy. This can rack up trading fees. Another risk to consider is diluted returns. Whilst it is important to spread out your risk, too much diversification can lead to a lack of concentration in a single sector – making it harder to achieve returns.

For a British expat in Spain looking to build a diversified portfolio, it helps to seek financial advice to ensure that a proper balance is struck – and maintained – with your investments. For you, there can be extra complications to consider such as cross-border taxation and currency exchange. However, the benefits of building an optimised portfolio are well worth it.

Firstly, keeping your wealth in cash is very unlikely to deliver long-term growth. Interest rates from savings rarely beat inflation, which means that cash tends to lose its value (in real terms) over the years. To build your net worth, therefore, requires looking at other assets which offer higher returns – such as equities and bonds.

Yet which equities and bonds? Are there other asset classes that you should consider and which asset allocation is best? These questions are best answered with professional advice since the answers will vary depending on your financial goals, investment horizon, risk tolerance and current financial situation.

A financial adviser (e.g. in Murcia) can not only provide the technical expertise you need to whittle down your choice of investments so that they meet ideal criteria (e.g. good fundamentals and low fund management fees). This professional can also help you maintain discipline over the long term with your investments. For instance, when markets become volatile and perhaps you face the temptation to withdraw from the market, a financial adviser can point you back to your goals and the strategy you agreed on together at the beginning. Your adviser can also assist with the best timing and manner of any “rebalancing” that needs to be done, helping to keep your portfolio on track without too much tinkering (which can lead to excessive fees).


If you are interested in discussing your own financial plan or inheritance tax strategy with us, please get in touch to arrange a no-commitment financial consultation at our expense:

+34 966 460 407

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