Don't Put All Your Eggs In One Basket (Of Stocks)
Today we are all facing a wide range of economic conditions. Month by month, the Market has gone up or down, sometimes up and down mid-month. And not by just a little. This year we have seen volatility on steriods, with so many traders left holding the proverbial "equity" bag. The point is...learn to limit your market exposure through diversification. While diversification may, on the surface, appear to limit your portfolio's growth rate, overall you might just find a more consistent trading performance accompanied by a significant reduction in risk.
Let's be clear about one thing...we're not talking about diversifying your portfolio amongst different equity sectors or worse, equity funds, as your full service broker might suggest. t's your broker who would encourage you to divide up your portfolio to "provide protection against loss" should an investment, and here comes the magic word -- "underperform".
If you had listened to your broker and invested in hedge funds in 2011, according to Hedge Fund Research, you saw your portfolio lose, on average, 4% this year, with many "underperforming" far below that. That's correct, at least 4% of your principal gone. You would have been better off spending an extravagant holiday in the Bahamas. At least you would have had the entertainment value of blowing through your portfolio.
What about the S&P 500? As of 31 December 2011, the S&P 500 was about five points above its 2010 close. That's correct, 5 points...for the entire year. At least it broke even for those that weathered the volatility storm of last summer. We all watched the S&P 500 plummet as Congress struggled over deficit cuts, a U.S. rating downgrade, and concern that Europe’s debt crisis would prohibit global economic recovery. The S&P 500 fell as much as 19% from its high at end of April. Unfortunately, having just lived through the devastation of 2008, so many retail investors were encouraged by their brokers to withdraw what was left of their funds and go to cash, long before the Market rebounded end of year.
Don't believe international equity Markets did any better. The Stoxx Europe 600 Index went down 12% in 2011. The MSCI Asia-Pacific Index was down 18%. The MSCI All-Country World Index went down 9.3%. No matter which equity fund your broker had suggested this year, this year nearly all "underperformed."
When we talk about diversification, we're not suggesting another "equity fund". We're not even suggesting equity trading at all. Look to diversify by trading the Futures Market. While trading the Stock Market always seems to be more popular than trading the Futures Market, actually trading Futures provides much more diversification. Why? Simple...there are so many other asset classes to trade besides just equities.
Within the Futures Market, investors have the option to trade just about every sector. There are contracts in currencies, gold, silver, crude oil and other energies, treasury notes and bonds, and agricultural products. For those of you who feel compelled to trade equities, you can trade the Financial Futures Market. You can buy and sell the entire S&P 500, all in one contract. Or trade all 30 Dow stocks at once. Or if you prefer tech stocks, trade the Nasdaq 100. And unlike equity funds, hedge funds, or mutual funds that come with stringent rules or restrictions on investing, Financial Futures contracts do not come with upfront load fees. You can enter and exit positions during the same trading day. While you can go long with the Market and buy contract, especially for those days when the Market is plunging, you can also short.
Don' get caught up in your broker's suggestions to "diversify". Learn to trade the Futures Market and create your own diversification protection plan.
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