5 ways to diversify your portfolio

As the Fed started raising interest rates and taking the money supply out of the economy, the investment landscape drastically changed. In less than a year, the S&P 500 index plummeted more than 20%, while the NASDAQ was down more than 30%. Luckily, there’s a way to prevent your portfolio from doing the same: diversification.

5 portfolio diversification techniques

Diversification means you’re not putting all eggs into one basket. If your portfolio consists only of Tesla and Apple, you’re not diversified. You can diversify either between industries or sectors in the stock market, or you can diversify across a variety of asset classes.

Here are 5 ways to diversify your portfolio:

1. Exchange-traded funds (ETFs)

Investing in ETFs is the easiest and fastest way to diversify your portfolio. That’s because you can buy ETFs like stocks directly from any brokerage. The difference between ETFs and stocks is that ETFs hold shares of multiple companies.

There are a variety of ETFs to choose from

• Equity or index ETFs that track indices like S&P 500 or NASDAQ.
• Sector ETFs like healthcare or tech.
• Crypto ETFs that track the price of Bitcoin.
• Currency ETFs that contain a basket of foreign currencies like the euro, Japanese yen and the British pound.
• Commodity ETFs that hold oil, gold and other commodities.
• Real estate ETFs that hold stocks of companies that own real estate.
• Sustainable ETFs that hold companies conscious about environmental, social and governance (ESG) aspects.
• Speciality ETFs, either inverse or leveraged, such as short NASDAQ or 3x semiconductor companies.

When to add ETFs: You can add ETFs to your portfolio at any time. However, their performance will depend on what kind of ETFs you invested in.
Drawbacks: ETFs typically have an annual fee. Luckily, the fee is relatively low such as less than 1% for most popular ETFs.

2. Bonds or bond funds

Bonds and bond funds are popular additions to a stock portfolio. Bonds are fixed-income securities that represent loans made by investors to borrowers. The most popular type of bonds used by investors is government bonds, also known as Treasuries.

Since the government guarantees to repay the loan, treasury bonds are considered among the safest investments you can make. However, this means that the return is typically low compared to riskier assets like stocks and cryptocurrencies.

Bond funds, as the name suggests, are funds that hold a variety of bonds — either from different countries or companies or from different maturity dates, say from six months to 10 years.

When to add bonds: Bonds are typically a great option in times of heightened volatility and uncertainty. They provide steady income and can preserve your capital in the long run.
Drawbacks: Inflation can eat up the bond’s value, which makes them a poor choice during times of high inflation. Also, if the bonds are corporate, the company could default and make your bonds worthless. This shouldn’t apply to US treasury bonds because the chances of US default are low.

3. Cryptocurrencies

Cryptocurrencies are digital assets where transactions are verified and stored on a database called a blockchain. The blockchain is secured by cryptography, which makes transactions hard to counterfeit.

The main idea behind cryptocurrencies is that they’re decentralized — i.e. independent from any entity or government regulation. Decentralization makes it nearly impossible to manipulate crypto, such as printing more coins without the consensus of the broader network.

Cryptocurrencies are considered high-risk investments, which is why they come with high reward potential. If investing in crypto seems complicated, though, you can indirectly invest by buying shares of crypto-related companies like Marathon Digital (MARA).

When to add cryptocurrencies: You may add cryptocurrencies to your portfolio at any time.
Drawbacks: Storing and safeguarding your crypto may require extra effort. If you lose your crypto wallet keys or send cryptocurrencies to the wrong address, your coins could be lost forever.

4. Commodities

Commodities are essential goods and raw materials like oil, natural gas, gold, and corn. The exchange of commodities often goes through futures contracts or options on specialized exchanges.
Luckily, you can invest in commodities indirectly via stocks or exchange-traded funds (ETFs). For example, investing in oil companies when the price of oil is rising is likely to have a positive impact on these companies. This will reflect in their share prices.

When to add commodities: Commodities typically perform well in times of high inflation.
Drawbacks: Political unrest, wars and foreign events can have a major impact on commodity prices. Keep in mind, the effect on prices can also be positive for investors, especially if there are supply issues and rising demand.

5. Real estate and real estate investment trusts (REITs)

Adding real estate into the mix diversifies your portfolio even further. You can do so by either directly purchasing real estate or investing in REITs.

REITs typically own commercial real estate that provides income, which is then redistributed among investors like a dividend. This makes REITs a fixed-income asset similar to bonds.

When to add real estate and REITs: You can add this type of investment to your portfolio at any time.
Drawbacks: The dividends you earn from REITs can sometimes be taxed as ordinary income. Dividends can also be affected by high inflation.

Bonus: Alternative assets

The five assets we’ve listed are the more popular diversification options. However, there are alternative assets that you can invest in, such as art, collectibles and luxury goods.

There are two ways to add alternative assets to your portfolio: via a trading platform or a special fund. For example, some funds own assets like NFTs, startups, cryptocurrencies, art, collectibles, wine and more. This means that when you invest in this fund, you are automatically exposed to the assets they hold. On the downside, most such funds require a minimum of $5,000 to invest.

Brokerage platforms, like Public.com, let you directly invest in alternative assets. These assets are broken into shares, meaning you don’t have to own the full item. In the instance of an art piece, you can own a fraction of it.

Compare investment accounts across brokers

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Bottom line

• Diversify your portfolio by investing in assets like bonds, cryptocurrencies, commodities, real estate and ETFs but be aware of the risks of each asset class.
• You can also diversify by using stocks from companies that have exposure to alternative assets.
• ETFs offer the highest diversity of investment options.

Frequently asked questions

• What is a well-diversified portfolio?

  A well-diversified portfolio is one that isn’t weighted by a single asset class like stocks. It’s made up of several different asset types like commodities, ETFs or even real estate.

• How do I diversify my portfolio?

  The classic diversified portfolio is often divided between 60% stocks and 40% bonds. However, this may not be the best performing mix in a high-inflation environment. The best way to diversify your portfolio is to look at the macroeconomic conditions before committing your funds to a single asset and then consider alternatives like ETFs and commodities.

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