Why diversify

Diversification means spreading your money across many different investments so that no single one can do too much damage. The old saying is "don't put all your eggs in one basket", and Friday gave a perfect real-world demonstration.

On Friday Intel, one of the best-known chip companies in the world, fell 28.6% in a single day after giving a disappointing forecast. Anyone with most of their money in Intel lost more than a quarter of it before the weekend. Yet the S&P 500, which contains Intel alongside 499 other companies, fell only 1.8%. Intel is a tiny slice of that index, so its crash was cushioned by everything else.

The same thing showed up elsewhere. ASML fell 6.1%, Schneider Electric 4.1% and Nvidia 4.2%. But a broad global fund like the Vanguard ESG Global All Cap fund (V3AB) dropped 1.9%, because it owns thousands of companies in dozens of countries and industries. Meanwhile AstraZeneca jumped 7%. On any given day some things go up and others go down, and a diversified portfolio lets them partly cancel out.

There's a catch worth knowing: diversification only works if your investments don't all move together. Owning ten chip companies isn't really ten separate bets, because they tend to rise and fall as a group (investors call this being highly correlated). On Friday nearly every chip stock fell at once. True diversification means mixing different industries, regions and types of investment.

Diversification also has a cost: it caps your upside. If you'd put everything in AstraZeneca, Friday would have been brilliant. But nobody knows in advance which share will be the winner, and research shows most individual shares do worse than the overall market over long periods, while a few big winners do most of the heavy lifting. Owning the whole market makes sure you hold those winners.

That's why many investors build around a broad global fund with smaller tilts. The tilts add interest and the chance to beat the market; the core fund makes sure a bad day for one industry never becomes a disaster.