The past few years have highlighted how volatile investments can be. Heading into the new year, it’s time for investors to learn from this volatility and diversify their portfolios.
Diversification helps hedge against inflation, price drops and other types of market volatility. With investments spread across various asset classes, industries and locations, poor performance in one area will have a comparatively lighter impact. Here are eight ways to diversify your portfolio in 2022 to achieve that.
1. Use Dollar-Cost Averaging
One of the best strategies in a time of high volatility is dollar-cost averaging. In this approach, investors divide total investment amounts into periodic, regular purchases that happen regardless of current prices. That way, they reduce the effects of market timing and investor psychology, avoiding mistakes like panic-buying.
Dollar-cost averaging also lowers the average cost per share since investors will buy more chares when they cost less. That also means that they’ll buy fewer shares at higher prices. As a result, it’s one of the most cost-effective ways to buy new stocks as investors diversify their portfolios.
Something to consider is that this strategy only improves performance if prices rise over time. To avoid losing money with this approach, apply it to index funds rather than individual stocks.
2. Invest in Cryptocurrency
Investors looking for specific new assets to invest in may want to consider cryptocurrency. Once a fringe movement, crypto has quickly reached mainstream attention and appeal, becoming an increasingly attractive investment opportunity. Despite high volatility, multiple cryptocurrencies grew more than 400% in 2021.
Cryptocurrency’s value fluctuates entirely on supply and demand, which, combined with its small market size, makes it volatile. As a result, it’s best not to feed too much money into this area, but careful investing can see remarkable returns. Since crypto is separate from the traditional stock market, it can also be an effective hedge against inflation.
3. Favor Sustainability
Another area that investors should consider in 2022 is sustainability. As climate change-related issues have grown more prominent, more governments and companies are going green. Transportation businesses are moving to electric trucks, manufacturers are embracing renewable energy and countries are enacting stricter environmental policies.
These shifts mean that sustainable technologies will become increasingly valuable. Disruptive, eco-friendly startups may have low prices now, but that could quickly change as demand for their products and services rises. As a result, investors who get in on this trend on the ground floor could see impressive growth in 2022.
Investing in sustainability doesn’t have to mean investing in risky startups, either. Many large companies are embracing and enabling this shift as well.
4. Consider Money Market Securities
Diversification offers security amid volatility, so why not lean into that when diversifying portfolios in 2022? An excellent way to gain a little security in a changing market is to enable liquidity. Money market securities like treasury bills (T-bills), certificates of deposit (CDs) and bankers’ acceptances are a low-risk way to do that.
These securities are short-term instruments, so investors can receive their money in a few months or even days. While that means that investors won’t gain much from interest rates and rates may not keep up with inflation, it enables flexibility. If markets start turning in an unexpected direction, investors can easily liquidate these assets for security.
5. Hold Securities in Different Countries
When most people think of diversification, they probably imagine investing across different industries and asset classes. Those types of diversification should certainly be part of any investor’s strategy, but investors shouldn’t overlook geographic diversification either. Investing in another country’s market could help hedge against an economic downturn in the U.S.
Take the uneven economic impact of COVID-19, for example. While the pandemic saw the U.S. GDP drop by roughly 9.5% in 2020, South Korea’s fell just 3%. Just as different industries succeed when others may struggle, so do various countries’ overall economies. Diversifying investments across nations can provide some needed security in 2022.
6. Be Cautious of Individual Stocks
Smart diversification strategies are just as much about what investors shouldn’t do as they are about what they should. When investing across various industries, asset classes and countries, it’s best to approach individual stocks with caution. While these may be the most straightforward investments, they’re also some of the riskiest, counteracting the point of diversification.
Concentrating everything in a single stock could see remarkable returns, but it’s more likely to produce remarkable risk. Investors may even be better off investing in the lottery, with odds as low as one in 166.7 in some scenarios. That’s not to say investors should avoid individual stocks entirely, but they should only constitute a small part of overall investments.
7. Avoid Going Too Far
Another practice to avoid is over-diversification. That may sound counterintuitive at this point, but holding too many different investments can create more problems than it solves. If investors have more holdings than they can manage, a sudden downturn somewhere is more likely to catch them off guard.
Similarly, holding too many can raise costs beyond what investors see in returns. Investors should have enough investments to provide security while having few enough to keep costs manageable. Where that line lies depends on the investor’s economic situation, but a good rule of thumb is to aim for between 20 and 30.
8. Rotate to Mid- and Short-Term Assets
While investing as a principle is often about aiming for long-term success, it may be best to favor short-term assets in 2022. Investors don’t have to get rid of their long-term instruments, but their diversification should focus on shorter ones. Short and mid-term assets will improve liquidity and protect against rising interest rates.
Short maturities are less sensitive to rate swings than long-term assets are. As the current administration settles into its pace, federal interest rates are likely to rise, so investors should prepare for this change. Rotating investment types periodically can also help keep portfolios active and optimized.
Maximize Your Portfolio This Year
It can be a confusing time for investing right now but also a profitable one with the right strategy. As investors head into 2022, they should review their diversification practices to gain some security in an uncertain year.
These eight strategies aren’t the only ways to diversify but are sound methods for 2022. If investors can carefully apply these to their portfolios, they can ensure growth in the new year.