Business Investing case study
Title: Business Investing
Release Date: 2010-8-26 15:10:37
Paper Language: English
Countries: Australia
Areas of expertise: Financial investment
Paper use: MA dissertation
Deadline for submissions:5 May 2007
words required: 1,607 words
School Background: sydney university
Refer to the essay below::
LP Diversifying allows investors to tuck into tasty returns while reducing the risk of reflux - if it's done properly. Simon Hoyle reports.
WHEN it comes to investing, the closest thing you'll ever get to a free lunch is the reward you get from diversifying your investment portfolio smartly. Correct diversification can help reduce the overall risk of your investments without affecting their returns.
TD But recent analysis by the financial planning group ipac Securities suggests that investors could need to rethink how they diversify their portfolios, or lunch could suddenly become a lot more expensive.
Diversification works most effectively when the performance of the various asset classes within the portfolio don't all perform well (or poorly) at the same time.
The statistical measurement of how two or more asset classes' movements are related is called "correlation". The correlations are measured on a scale ranging from +1 to -1. Assets with a correlation of +1 have perfect positive correlation, and move in the same direction at the same time. Assets with a correlation of -1 have perfect negative correlation, which means they move in opposite directions at the same time.
Assets with a correlation of zero have no correlation, and any movements in the same direction and at the same time are purely coincidental.
Diversification helps you to reduce risk (here, we define risk as the volatility of a portfolio's overall returns) when you spread your money among asset classes that do not all move up and down at the same time.
The effect of good diversification is to "smooth" the overall portfolio return, while still enjoying the performance of the underlying asset classes.
Ipac's analysis suggests the correlations between some traditional asset classes are increasing. That is to say, asset classes have tended recently to move up and down more in sync with each other than they've done in the past.
For example, the correlation between the Australian sharemarket and global sharemarkets has trended towards. And that means a portfolio that was adequately diversified, say, five years ago might no longer be as effective a risk-management tool as it was. | 
