Your specific investment decisions will depend on several factors: your age, tax bracket, risk tolerance, liquidity needs, investment time horizon and investment goals. In general, however, a well-diversified portfolio might include:
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Diversification alone may not be sufficient to protect your investments. By taking a broader view, a financial planning strategy can put safeguards in place to help protect yourself and your family.
For instance, purchasing disability income insurance provides protection if you become disabled and are unable to earn a living. Life insurance is another form of protection. It can help preserve your estate assets and reduce the risk that a disaster could wipe out your family's standard of living. It can also provide the necessary cash for your survivors to pay estate taxes and other expenses or to continue a family-owned business.
A properly planned estate can also be a part of your overall strategy. Simply having a will may not be enough. You may need to coordinate your will with trusts for your children, life insurance and estate tax planning. Estate planning can help preserve and direct the distribution of your assets after your death.
A diversified financial planning strategy will not eliminate risk or guarantee success. But it does offer an approach to help protect your assets, reduce risk and potentially grow assets over time.
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An investment portfolio consisting of twenty different construction industry stocks is not diversified. Diversification means dividing your funds among different classes of assets, such as stocks, bonds, real estate, savings accounts and tangible assets. For instance, suppose your portfolio consisted entirely of bonds. Your money would be at significant risk if interest rates rose since bond prices generally fall when rates go up.
A prudent investor managing his own portfolio might diversify his holdings by selecting some stocks for their rising earnings or accelerating "growth" potential while buying other stocks because they offer "value" by temporarily being out of favor. In addition, an investor may buy individual securities for other reasons, such as income or tax advantages.
An alternative to selecting and managing individual stocks and bonds is to invest in mutual funds. Some mutual funds offer diversification by holding many securities within the portfolio. However, some other funds may not be diversified across industries or asset classes and may focus on a single sector. Mutual funds offer several other features, including:
Diversification also means not tying up all your funds in long-term investments. You'll need to keep a certain amount easily accessible -- that is, in money-market accounts, savings accounts or short-term certificates of deposit (CDs) -- for on-going expenses, emergency needs, and short-term goals such as saving to buy a car or pay taxes. And through dollar-cost averaging, a process of buying stocks and bonds from time to time instead of all at once, you can spread the risk over both good and bad markets. Using this investment method involves continuous investment in securities regardless of fluctuating price levels of securities. Therefore, investors should consider their financial ability to continue purchasing through periods of fluctuating price levels. Dollar cost averaging does not ensure a profit and does not protect against a loss in declining markets. Diversification is also important because CDs are FDIC-insured and typically offer a fixed rate of return while investments such as stocks and bonds are not FDIC-insured and their value will fluctuate with current market conditions.
We can help you make some decisions about the best strategy for your individual requirements.
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