Diversification
Spreading investments across assets whose returns do not move together, so that the portfolio's volatility falls below the average of its parts.
How it is identified
Portfolio Variance = Sum over all pairs of (Weight i x Weight j x Covariance of i and j)
Unit
qualitative
In depth
Diversification works through correlation, not through counting: twenty stocks in one sector are far less diversified than eight across different sectors and asset classes. It is the only genuinely free improvement available in investing, because it reduces risk without reducing expected return. Its limit is systematic risk, which no amount of diversification removes, and its failure mode is that correlations rise in a crisis, so the protection weakens exactly when wanted. Over-diversification is a real cost too: a portfolio of two hundred stocks is an index fund with higher fees.
Worked example
Two assets each with 20% volatility and a correlation of 0.3, held equally, give a portfolio variance of 0.25 x 0.04 + 0.25 x 0.04 + 2 x 0.25 x 0.3 x 0.04 = 0.026, so volatility is 16.1% — lower than either asset alone.
Illustrative figures, chosen so the arithmetic is easy to follow. Not a live price and not a valuation of any company.
Educational reference only
This entry explains what “Diversification” means. It is not investment advice and not a recommendation to buy or sell any security. Any numbers above are illustrative, not live prices, and nothing here predicts price direction or rates a stock. Consider your own circumstances and consult a SEBI-registered investment adviser before acting.