Diversification is fundamental to a sound investment strategy. It’s the closest thing to a free lunch there is.
This is true in other domains of life as well.
- The difference between having a diverse range of social relationships compared to having a narrow range of relationships. It can be tremendously enriching to be close to people at different phases of life, who have different interests and priorities, and who have seen (and draw out) different sides of you.
With your most valued relationships, it can even be important to diversify the ranges of experiences and contexts that you share. The “wider” and “deeper” the relationship is, the more likely it is to endure the changing seasons and circumstances of your lives.
- The difference between having one income stream, and having multiple income streams. Or the difference between being wedded to one employer (or a very narrow group of potential employers) and having valuable referral relationships or dozens or hundreds or clients that are invested in the services that you provide (and how you provide them).
I recall Tim Ferris mentioning the idea of “diversifying your identity” in one of his podcasts. Mark Manson paraphrases Ferris as follows:
When you have money, it’s always smart to diversify your investments. That way if one of them goes south, you don’t lose everything. It’s also smart to diversify your identity, to invest your self-esteem and what you care about into a variety of different areas — business, social life, relationships, philanthropy, athletics — so that when one goes south, you’re not completely screwed over and emotionally wrecked.
You don’t need to go as far as having an alter ego like Bruce Wayne/Batman or Selina Kyle/Catwoman. But having a complex identity that can’t be reduced to any one thing can be valuable.
I’m guessing she doesn’t dress like this all the time.
The upside of diversifying
Diversification manages risks. It can also expose you to good fortune.
One of the funny things about investment diversification is that it means you will never have the “best” return in any given year. The people who get the “best” return will be those who have loaded up with the single best performing investment.
This blog is made possible by Fairhaven Wealth, my independent, fixed-fee, advice-only financial planning business.
(I put “best” in quotes because it begs the question: they had the best return for a given time return, but it might not have been the best risk-adjusted return. And if they stay in that investment, it’s likely to continue to be the highest returning investment. Remember to judge the quality of decisions rather than their short-term outcomes.)
The very important corollary of this is that you will never have the worst return. The worst return (no quotes needed…) will be reserved for people who loaded all of their eggs into a basket that has gone very badly.
Although this risk/return trade-off is true with respect to investments, it is less true with other domains. In the context of your broader life, being diversified can add to, and enrich, other domains of your life.
Being “diversified” can enable you to take more risks. If something goes wrong in one domain, it’s less likely to feel as pervasive, because you’ve got other things going on.
It also exposes you to different worlds. Different experiences, ideas, and insights. All of these things can work together, creating opportunities that wouldn’t appear if you lived a narrow life.