Investment diversification and asset allocation are proven investment strategies to reduce risk while maximizing profits. How does diversification and asset allocation work?

What is Diversification and Asset Allocation?

Investment diversification and asset allocation is a strategy for risk management.

Wealth Protection & Preservation - How the Rich Stay Rich

The following describes diversification and asset allocation:

Troy Segal, Gordon Scott Diversification is a risk management strategy that mixes a wide variety of investments within a portfolio. A diversified portfolio contains a mix of distinct asset types and investment vehicles in an attempt at limiting exposure to any single asset or risk.

Rob Berger, Benjamin Curry Diversification is an investing strategy used to manage risk. Rather than concentrate money in a single company, industry, sector or asset class, investors diversify their investments across a range of different companies, industries and asset classes.

Why the Need for Diversification and Asset Allocation?

Investing is always faced with two variables, namely RETURN (profit) and RISK (risk). An investor certainly hopes to increase returns while reducing risk.

When discussing investment risk, there are two types of risk, namely: systematic risk and unsystematic risk.

Systematic investment risk usually occurs due to external factors that we cannot control, such as rising interest rates, currency exchange risk, war, and others.

Unsystematic investment risk is the risk that occurs due to the selection of investment products, for example liquidity risk, reinvestment risk, financial risk and so on.

Read more about the concept of return and risk in the article: The Concept of Investment Risk and Return: High Risk, High Return

Take a look at the following chart.

Investment risk or Total Risk consists of Systemic Risk + Unsystematic Risk. Systematic risk is a risk that is absorbed by investors.

Investors can manage unsystematic risk by diversifying their investments.

How to Diversify?

You can diversify investment products, based on several criteria, such as:

#1 Asset Type

You can diversify by asset type

• real asset example: property, business, franchise, collectibles, luxury items.
• paper asset example: stocks, bonds and mutual funds.

#2 Asset Class

You can divide investments (e.g. paper assets) into several classes, for example:

• Stocks, ownership of a company that is traded on the stock exchange.
• Bonds, debt securities, both government and corporate bonds.
• Mutual Funds, investment portfolios managed by investment managers.
• Cash and Cash Equivalents, investments that serve to maintain liquidity with minimal risk.
• Property, ownership of houses, shops, apartments, and so on.

# 3 Industry / Sector

In investment, we recognize that there are sector changes or rotations, which are adjusted to economic conditions.

The Mother of all Sector Rotation Strategies

The following is insight from Mr. Andy Chandra of BNP Paribas Asset Management regarding attractive sectors for investment in 2023.

Based on Mr. Andy Chandra's explanation, the sectors that will be of interest in 2023 are the consumption sector stocks, related to electric vehicles and telecommunications.

#4 Investment Period

The selection of investment products also needs to be adjusted to the investment period, for example, distribution among short-term, medium-term and long-term investments.

For example, for a medium-term goal of 2 – 5 years, you can consider investing in defensive stocks and government bonds (ORI, Retail Saving Bonds, Retail Sukuk, or Savings Sukuk).

#5 Investment Location

You can also divide your risk by allocating to domestic and overseas investment, for example: buying foreign property, buying foreign stocks, or foreign bonds.

One way is to invest in a mutual fund that contains Chinese or American stocks.

The following is insight given by Mr. Andy Chandra of BNP Paribas Asset Management regarding investment in the greater China shariah equity mutual fund which contains Chinese stocks.

If you want to wish to invest in equity funds containing US or Chinese stocks, you can contact a Moduit Wealth Advisor.

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PT Moduit Digital Indonesia is an investment advisory company under OJK (Decree: KEP-30/D.04/2019).

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You can become a Moduit Beyond client by contacting us on this form or reaching out to a Moduit Beyond advisor partner.