4 ways to diversify your investments
Diversifying your portfolio is about more than just buying different stocks and bonds. Learn four expert tips to help you diversify in today’s market.
Updated 
5 min. read
If the recent market volatility as a result of COVID-19’s impact on the global economy has taught us anything, it’s that diversifying your investments is more important now than ever. A diversified portfolio helps weather the storm caused by erratic global events, such as the pandemic we’re currently in the midst of. So, how do you build a diversified portfolio?
Building a diversified investment portfolio used to be easy. You’d simply divide your assets between stocks and bonds in the proportion that suited your risk tolerance, you’d make sure some of those assets were invested outside of North America, and then you’d rebalance on a semi-regular basis.
That won’t cut it anymore. Today, investors are forced to deal with fixed income investments that pay almost nothing, stocks that are at the tail end of a decade-long bull market, and a dizzying number of strategies and products that promise higher returns and lower risk.
All this choice is a mixed blessing, says Martin Pelletier, a Calgary-based portfolio manager. “There’s a lot more available to investors from the product standpoint. That creates its own challenges, but it also creates its own opportunities,” he says.
People also have different long-term financial goals: they’re living longer, sometimes working in retirement and expecting to travel more than previous generations. So creating a diversified portfolio that takes into account your life, challenging market environments, and a bunch of new products takes some work.
Fortunately, it can be done. Here are some steps you can take to be more diversified in today’s markets.
Step 1: Go global
Most Canadians invest too much in Canadian stocks. It’s understandable – we live here, we know companies here and we spend money in loonies. However, what many people don’t understand is that Canada is one of the least diversified investment markets around. The S&P/TSX Composite Index is heavily concentrated in energy, materials and financials, while Canada accounts for just 3% of the global equity markets.
Over the last several years, international markets have opened up in significant ways. For instance, many companies located in countries with emerging economies used to be considered speculative investments, but now these have become stable businesses with lengthy track records. So, make sure your investments are diversified across geographies. While your allocation to Canada will vary, less than half may be a good start. “A lot of people have a third or half in Canada,” says Ed Rempel, a Toronto-based certified financial planner. “To me, that’s too high.”
Step 2: Diversify your products
As much as the product suite has grown over the years, investors shouldn’t just stick to basic stocks and bonds if it’s all they’ve known. More people are exploring investing alternatives, which can include infrastructure, real estate, venture capital and also hedge fund strategies, like going long on one stock and short on another.
While some of these investments and approaches are riskier, they can also have a much lower correlation to equities, which is what you want when making your portfolio more diversified. High-net-worth Canadians can invest directly into a business or a building, while others can invest in infrastructure or private equity stocks or funds.
Many investors are also diversifying by adding what’s called smart-beta exchange-traded funds (ETFs) to their portfolios. These funds organize their investments around certain investment styles or approaches, such as volatility reduction or increasing income through dividend paying companies. For example, if you want to lower the volatility or risk in a portfolio, you can add an ETF that holds companies that less subject to market ups and downs. If you do want more income, then consider a smart-beta dividend ETF, which will pay out dividends that you can use for income or to re-invest.
Step 3: Think more broadly about bonds
The fixed income part of portfolio construction used to be the easiest – buy a government or corporate bond fund and collect the income – but it’s now become the most frustrating. Why? Because when rates rise, bond prices fall and interest rates are likely going to continue moving higher. While some investors have decreased how much they invest in bonds because of this, it’s important to remember that fixed income is still a great portfolio diversifier. Typically, bond prices rise or stay flat when equity prices turn negative.
So what’s an investor to do? Just like with equities, it can help to be diversified within bonds. Government bonds are safe, and while they don’t pay much today, they aren’t affected by the stock market, which is good if markets are volatile. Corporate bonds provide higher yields, though be careful when buying ones with ratings below BBB (ratings range from D to AAA, with D being the most at risk for a bankruptcy and AAA being the least) as companies with lower ratings are more likely to run into problems.
Then consider a bond’s term. Short-term bonds have lower yields, but fall less in price when rates rise because they come due quickly. Long-term bonds have higher yields, but can be more volatile as interest rates climb. It’s a good idea to have a mix.
Step 4: Go slow
It’s easy to add too many things to a portfolio, so that you either can’t figure out what’s working and what’s not, or you generate minimal return because you’re too diversified. Pelletier says to keep it simple, but don’t implement a strategy just because it worked once. He suggests you start slowly by buying low-cost active and passive funds and then add other types of investments, such as private equity or real estate, as your portfolio grows.
“Sometimes it’s easier for the average investor to simply look at some of these low-cost active and passive investment vehicles that are already fully diversified. And then add more sophistication if you need it,” he says.
While it may be more complicated today, investors can create a diversified investment portfolio that suits their individual needs and can better withstand the market’s ups and downs. It may take a little more work, but your money should be able to go further.
