The 9 Best Ways to Diversify Your Investment Portfolio

Diversifying your investment portfolio is a strategy for protecting and growing your investments. You reduce the risk of investing in a single asset by spreading your money across multiple assets. If you’re here, you’ve already taken the first step to understanding the importance of building a diverse portfolio. 

Below, you’ll learn about how to diversify your portfolio. We’ll cover nine effective ways to diversify your assets across classes, how to adjust for age and rebalance your portfolio, and alternative investments. This guide will equip you with a fine-tuned approach to managing risk.  

Table of Contents

1. 1. Diversify across asset classes
2. 2. Diversify within asset classes
3. 3. Consider geographic diversification
4. 4. Use diversified investment vehicles
5. 5. Diversify by investment style
6. 6. Adjust asset allocation based on age
7. 7. Rebalance your portfolio every 6 to 12 months
8. 8. Consider alternative investments
9. 9. Be mindful of costs and taxes
10. FAQ

1. Diversify across asset classes

You can minimize the impact of a poorly performing investment by spreading your investments across different asset classes like stocks, bonds, real estate, and commodities. This is the basis of diversification. Assets classes behave differently, so combining them balances the risk and rewards. 

Let’s examine some assets that provide growth and stability and act as a hedge during a downturn. 

Stocks

Stocks are a core part of a diversified portfolio. Domestic stocks, found in the United States, provide you with growth potential in a familiar market. International stocks expose you to growth opportunities in developing and emerging countries worldwide. 

Investing in domestic and international stocks spreads your risk across multiple markets. If one market underperforms, gains from others can offset your losses.  

Bonds

Bonds offer stable income and relatively low risk. You can invest in government, municipal, or corporate bonds. Government bonds offer reliable returns, municipal bonds have tax advantages, and corporate bonds have the potential for high yields. 

Short-term bonds benefit from liquidity, while long-term bonds provide a stable income stream.  

Real estate

Real estate is a tangible asset that can help balance risks and provide long-term returns. A real estate investment trust (REIT) is a more accessible option for investors who don’t want the responsibility of direct ownership. REITs pool funds to purchase and manage properties such as office buildings, apartments, and shopping malls, which generate income.

REITs trade like stocks, are highly liquid, and benefit from dividend income. You can also invest in companies that own real estate in the form of stocks.

Commodities

Commodities such as gold and oil are popular safe-haven investments. This means commodities can hedge against long-term inflation and dollar devaluation during market volatility or economic downturns. Oil benefits from rising global demand, and gold retains its historic value. 

Commodities tend to move independently of other asset classes, which can stabilize your portfolio if your stocks are underperforming. They have low correlation, but the same factors that affect other markets can influence commodities.

2. Diversify within asset classes

• Diversifying across an asset class involves investing in stocks, bonds, REITs, and commodities.
• Diversifying within an asset class focuses on spreading your risk within a single category. This strategy protects your investments from the risk of investing in a specific sector. 

For stocks, this means investing in multiple industries: technology, healthcare, and consumer packaged goods, for example. You can also apply this strategy to company sizes by investing in large-cap, mid-cap, and small-cap stocks. 

You can also apply this to companies that are growth-oriented versus value-oriented. This reflects how expensive a stock is and whether it is positioned for future growth, simply dividends, or less price appreciation.

Bonds involve investing in different issuers, such as government, municipal, and corporate bonds. Treasury bonds offer security, while corporate bonds offer higher yields. Municipal bonds typically offer lower yields than government or corporate bonds, due to their associated tax advantages. 

Diversifying your portfolio within an asset class reduces the impact of poor performers in one area or defaults from a single issuer.  

3. Consider geographic diversification

Consider investing in international markets to expose yourself to different economic cycles and reduce reliance on a single country’s economy. 

If your local market is facing a downturn, global investments can offer growth opportunities in emerging countries with stronger performance in a particular sector. International stocks, bonds, and real estate benefit your portfolio by offering diverse economic growth. 

4. Use diversified investment vehicles

Diversified investment products make managing your portfolio easier. These options allow you to spread out your investments across multiple asset classes, sectors, or strategies in a single purchase. Options such as mutual funds and target-date funds make diversifying a simple process.

Mutual funds and ETFs

Mutual funds and exchange-traded funds (ETFs) pool investments from multiple asset classes. These funds are professionally managed to minimize risk and maximize your returns. ETFs are more liquid than mutual funds because they trade like stocks and have relatively low fees for trading. 

Target-date funds

Target-date funds are designed to adjust your asset allocations as you approach a set retirement date. They focus on growth through equities early on and shift to conservative investments—for example, bonds—the closer you get to retirement. This is a hands-off approach to diversification that automatically rebalances over time. 

This is a good choice if you’re an investor who prefers a simple, long-term approach that requires very little management.

5. Diversify by investment style

Growth and value investment strategies can help balance out potentially high returns with more stability. Growth investments focus on companies with a potential for high future earnings. These companies reinvest profits to drive more growth, which delivers higher returns. 

Value investments target companies that are undervalued relative to their assets and earnings. These investments offer more stability and consistent performance. Combining the two strategies mitigates overexposure to one investment style.  

6. Adjust asset allocation based on age

Your investments should evolve as you age in a similar way to target-date funds that adjust your asset allocations as you get older. Younger investors can take more risks and those nearing retirement should focus on stability and income. 

20s and 30s

You have decades ahead of you, so focus on growth products—stocks are an excellent investment at this time. Allocate a large portion of your portfolio to products that capitalize on long-term growth. Diversify by investing in international and domestic stocks and mid-cap and small-cap stocks. 

This strategy must be based on your time horizon. If you need your invested money soon, you don’t want to take the risk of the stock market. Buying a home or a car in the next two years? Stocks likely aren’t the best option.  

40s and 50s 

Take a more balanced approach as you approach retirement. Reduce your exposure to high risk by adding bonds and dividend stocks to your portfolio. This mix will maintain your growth and add stability and income potential. 

60s and beyond 

Preserving your wealth while generating income is paramount. Much of your portfolio should focus on low-risk assets, including bonds. Exposure to some stocks is OK, but you don’t want to take excessive risks through retirement. 

Again, this depends on your time horizon and when you need the money. If you have a 401(k) worth more than $1 million, you won’t touch all of it in the next 10 years, so some of that can take on more risk.

7. Rebalance your portfolio every 6 to 12 months

Rebalancing your portfolio every six to 12 months helps realign your investments with your risk tolerance. Market movement can cause certain assets to underperform and others to perform quite well. Stay on track by revisiting your financial goals every six to 12 months.   

We typically invest in a mixture of stocks and various types of bonds. Real estate is often done through home ownership. Based on a client’s risk tolerance, we may consider alternative investments.

Private investments tend to be only for wealthy clients who can afford the loss of liquidity or need additional diversification. The right portfolio balance is based on the time horizon the money is needed and the client’s risk tolerance. Those two balance out before we recommend what type of portfolio to invest in.

Kyle Ryan, CFP®

8. Consider alternative investments

Alternative investments enhance a portfolio by exposing it to assets that behave differently than traditional investments, including stocks and bonds. Assets, like private equity, don’t always correlate with the wider market, so they can be a valuable tool for diversification. However, in return, these assets come with more risk and possibly less liquidity. 

Still, several liquid investment products offer excellent diversification. Structured notes, buffered ETFs, and annuities are great examples. 

Gold is another popular alternative investment that offers stability and tax advantages through a retirement account. A precious metals IRA lets you hold physical gold and other metals in a tax-deferred retirement account, which can come in handy in an economic downturn. 

If you’re considering a precious metals IRA, here are two of the best gold IRA companies we’d recommend:

9. Be mindful of costs and taxes

Being mindful of costs and taxes is just as important as diversifying your portfolio. Fees and taxes can eat up your returns, so plan carefully. Leverage tax-saving accounts, such as Roth IRAs, which allow for tax-free withdrawals during retirement and can shelter your portfolio from future tax obligations.

You could also reduce your tax liability through tax-loss harvesting. This involves selling underperforming assets at a loss to offset gains from other investments. For instance, selling appreciated stocks can trigger capital gains taxes, but losses from underperforming assets can help lower what you owe.

Tax-loss harvesting allows you to carry forward unused losses to offset future gains. This ongoing benefit can be useful during high-income years. However, keep an eye on transaction fees and potential short-term capital gains taxes that may eat into your savings.

To ensure you’re not missing out on future rebounds, timing is key. A well-executed tax-loss harvesting strategy can improve your portfolio’s tax efficiency without disrupting diversification goals. Consult a financial advisor or accountant for tips on optimizing your investments within the tax code.

Some investors think owning U.S. stocks alone is diversified enough. One must consider international investments, small-cap stocks, and bonds to a certain degree. Even cash can be considered an “investment” when the time is right.

The efficient frontier is a graph that shows that 100% equity portfolio takes on more risk and has less return than a 98% equity portfolio with 2% invested into bonds.

Kyle Ryan, CFP®

FAQ

What does it mean to diversify your portfolio?

Diversifying your portfolio means spreading your investments across different asset classes, sectors, and geographies to reduce risk. This strategy helps ensure that the performance of one investment doesn’t disproportionately affect your overall portfolio.

How can I diversify my retirement portfolio?

To diversify your retirement portfolio, mix traditional assets, such as stocks and bonds, with alternatives, such as real estate, mutual funds, or gold IRAs. Consider including international investments and dividend-paying stocks for steady income. Aligning your portfolio with your risk tolerance and retirement goals is crucial.

How do alternative investments help with diversification?

Alternative investments, such as gold, real estate, and private equity, provide diversification because they often don’t move in tandem with traditional markets. For example, gold may hold its value during stock market downturns, acting as a hedge against inflation and economic uncertainty.

What are the risks of not diversifying your portfolio?

Without diversification, your portfolio is vulnerable to market swings in a single asset class or industry. If that sector performs poorly, your entire investment could see significant losses. Diversification helps minimize this risk by spreading your investments across different areas.