Don’t Focus on Diversification
Diversification can be a good thing, but I think too many people do it for the wrong reasons, and without enough thought.
I love listening to Warren Buffett because he always breaks things down into their simplest parts. He once said very plainly, “Diversification is protection from ignorance.” I don’t think he could have said it any better (and who would disagree with Buffett?).
Keep in mind, ignorance does not mean stupid, it simply means uneducated or not informed. It’s not a statement of general intelligence, but should be applied to a specific issue. So Buffett is saying people who don’t fully understand an investment protect themselves by diversifying in other markets.
Buffett is known for being very to the point, but his comments always should provoke thought. This is no exception…I think it’s a little back-handed, actually. I don’t think Buffet is telling us diversification is the solution. It’s just betting on many things instead of a few.
The solution is knowledge. The more we understand an investment, the less we need to “protect” ourselves. By doing the homework up front, and really understanding what will generate profit in a given investment, we make it just that – an investment, not a speculation.
Is it Wrong to Diversify?
No, I don’t think it is. I just think it’s wrong when people make diversification their strategy. Too many people diversify for the sake of diversifying. Just because you cover a lot of markets doesn’t mean most will increase. But if you don’t hide behind diversification, and take time to understand each investment before buying, it won’t hurt you either.