Importance of diversification while investing!
What is the best way to diversify your portfolio? Read on to find out more!
We’re all familiar with the expression, ‘don’t put all your eggs in one basket’. The logic is simple — if all of your eggs are in a single basket, what happens if you drop the basket? No more eggs.
According to investopedia.com — Diversification is a risk management strategy that mixes a wide variety of investments within a portfolio. A portfolio constructed of different kinds of assets will, on average, yield higher long-term returns and lower the risk of any individual holding or security.
As simple and logical as it may seem, it can be hard for people to stick to it. After all, if you’re excited about something, it’s tempting to concentrate your investments in that particular area. If your bet pays off, it pays off big. But there is, of course, an equivalent downside. With no other holdings, if your single asset tanks, your portfolio is going with it.
Seasoned investors understand the value of allocating funds across various asset classes in order to strike the right balance between risk and reward. However, what is also important is allocating funds to different projects within an asset class. Historically, over the last decade, or even a year, crypto has given a return much higher than any other traditional investment tool. Thus, to get the best of both worlds, while striking a balance between the risk and reward, it is a good idea to invest 5~10% of your total investment in the novel asset class of cryptocurrencies.
Like in case of a stock portfolio, one should invest across multiple segments of like the energy stocks, tech stocks, healthcare stocks and so on. This should hold true for your crypto portfolio as well with investments in key trends like DeFi, NFTs or Smart Contracts.
For every crypto investor, the end goal is to maximise their profits, while eliminating risks. To achieve this, investors implement a variety of strategies to capitalize on the market trends. A key to these strategies is allocation of funds across a set of projects, with varying weightage to hedge the risk of the portfolio diminishing incase of a steep fall in one of the projects (something which isn’t rare in case of cryptocurrencies!).
Fun fact: Bitcoin fell by 22% in its single largest fall in a day, while it went up by over 16% as its single largest day gain!
Novice investors in the crypto space assume that investing in Bitcoin or Ethereum are good enough. It is often believed that the two market leaders give you all that there is to offer in the crypto world. So instead of adopting a diversified crypto portfolio, users invest in just a couple of projects out of the 6000+ tokens there are! Although BTC and ETH have shown impressive returns over the years, there is nothing like a well balanced basket comprising the best projects of the crypto market.
Unlike the other traditional financial investment options like equities, mutual funds or fixed deposits — digital assets are very volatile. Sudden price fluctuations during the day might be beneficial or detrimental for the investors. A diversified portfolio prevents capital erosion in times of a downturn in the market trend. A mix of stablecoins in the portfolio, adds another layer of stability as these coins witness relatively much lesser movement on a regular basis.
One may argue, that the price movement in cryptocurrencies are always correlated, but that is not always true. However, diversification in this case acts as a risk management strategy. The fall in Bitcoin, Ethereum, Cardano and the Binance Coin will never be the same. There are multiple factors that affect the value of each currency. Read more about where cryptocurrencies derive their value from here.
In the last one year (2020–21), there has been a DeFi boom, also referred to as the DeFi Summer. Portfolios or baskets consisting of DeFi projects have been outperforming the market. The DeFi basket on flippy has returns of over 2000% since last year. As a novice investor, one may not dig deep enough to pick the right projects. UNI, CAKE, MKR, COMP, AAVE and LUNA were some of the top DeFi projects which were a part of the DeFi basket and have been consistently outperforming an investment in only a BTC or a ETH.
The best way to diversify your crypto portfolio, would be to pick tokens that have the least price correlation. Assets that do not trail in terms of price are most effective for this strategy. The goal should be to invest across all types of cryptocurrencies, diversifying within each trend too.
To sum it up, portfolio diversification is the act of allocating a varying percentage of your total funds into different assets in order to maximise profit and minimize risk. Through well diversified baskets on flippy, you can feel confident about your investments being spread across various assets.
In the past, diversification in crypto was a challenging task, but not anymore! With flippy there is no need for you to research into themes or look for a place to buy them. We realised that crypto investments were intimidating for novice investors. The when? where? and what? made the friction so high, that most folks never ended up investing in anything apart from a BTC, ETH or a DOGE. On flippy, find curated baskets with built in diversification, giving you the right exposure to the market, without much effort from your end. At flippy we make your crypto investment experience simple, easy and fun!
Currently, we have six basket options and will be continuously adding more in the coming days. You could invest in as many as you’d like, the smallest amount of investment being one unit of a basket.
To end with a quote by Barry Ritholtz: “The beauty of diversification is it’s about as close as you can get to a free lunch in investing.”
Disclaimer: The above article is not a form of investment advice, but lists down the need for diversification as a risk mitigation strategy.
