Why Diversification is a Must

The devastation from the Los Angeles fires has laid bare a risk I have been warning against for so long: it is dangerous to have your financial security riding on one investment.

Yet we are now hearing that so many people whose homes burned were treating their home as their sole investment strategy. Sure, if they have a solid insurance policy they will get a payout. But insurance does not pay you the market value before your home burned down. It only pays the cost to rebuild, up to your policy’s stated limits.

So they have lost not just their home, but likely what they calculated their net worth to be before the fire, which is now less given the limits of their insurance coverage.

The point is that diversification is not just about your investment portfolio. It is about all your financial investments. To have all your financial future riding on a single asset—real estate —is just as dangerous as only investing in the stock market. Or only investing in tech stocks.

Diversification is its own form of powerful insurance: By spreading our financial future into different types of investments we buy ourselves protection if one (or more) falls into a pothole.

Owning a house is not a diversified retirement strategy.

Owning an ETF that focuses on just technology stocks is not a diversified investment strategy.

Owning only stocks when you are retired, without having at least a few years of living expenses set aside in cash is not a diversified strategy.

And this is so important as well: Keeping all your money in cash is not a diversified financial strategy either.

Diversification is about having stakes in multiple types of assets. Stocks. Real Estate. Cash. Maybe bonds. Maybe a little Bitcoin if you are following that market.

And a special note about real estate: Owning your own home and also investing in income properties does not make you diversified. Your future is still tied to the value of real estate, regardless of how many properties you own.

And here’s how you know you have a well-diversified approach to investing: It’s typical that not every piece of a diversified financial pie will do well at the same time. When some slices are doing well, others may be flat or even lose a bit of value. That’s more than okay!  You are balancing out your risk.

Cash might seem boring when stocks and real estate are doing well, but don’t you remember 2008? Stocks and real estate had steep declines. Cash and bonds shined. That’s diversification at work.

I hope you will take a step back and review your entire financial investment portfolio. If the majority of your net worth is tied up in one asset I want you to start strategizing how you can build a more diversified investment portfolio.