We’re up to 51 Wealth Tips already.
(To see all of them go here: Financial Freedom > Wealth Tips)
Yep, past the 50 mark with a banana, an apple and a potato.
… and we came this far without mentioning the need to diversify. Well, now we’re going to turn it up a notch.
So let’s get to it. We’ll start with my favorite number…
3 Reasons to Diversify
So here are your 3 reasons to diversify. Pretty self explanatory so I’m not going to say too much about each here, I’ll just refer back to them with a few examples so you see what I mean:
- Reason #1: To manage your risk (and avoid concentration risk)
- Reason #2: For enjoyment
- Reason #3: For security and education
What is Diversification?
Well, you probably know this but just in case, I’m talking about not putting all of your eggs in one basket.
Not putting all of your readies on one horse.
Not betting the farm on one thing.
Diversification is all about investing (whether that be your time, your money or your energy) in a variety of things, and that’s mainly for the 3 reasons above.
Diversification Example 1: Why We Expanded Our Property Portfolio
So when we first moved to the countryside, the idea was to rent our house in London where rents and, well, everything is generally higher and move to live in the countryside where the cost of living is much lower.
Our own little mini geo-arbitrage experiment.
Except it didn’t quite work out that way – it worked really well for a while (we could easily live off the rent we were making from that one property and have money left over) but then our worst nightmare happened. The rent stopped being paid and we were forced to go through the hassle and stress of evicting our tenants through the courts with bailiffs to get our house back.
Don’t pity me too much though because we did manage to make money through other avenues that we hadn’t planned for (website, consulting, books) and we had a safety net in any case as we’d put aside some savings before moving to the countryside just in case.
Also we simplified our life which made everything not only much more enjoyable but also much, much more affordable.
However we did realize through this experience that we were far too dependent on the rent from that one property – so we started planning to expand our property portfolio a little to reduce that concentration risk.
So the theory is that having a number of properties, if one of them has a similar issue (a ‘void’) we still get paid from the others.
This number doesn’t have to be huge either (I don’t actually like the idea of being a landlord) – my number? (you guessed it) – 3. i.e. I want 3 properties that I rent, no more, no less – that’s enough to manage the concentration risk.
This concentration risk doesn’t just apply to money – it applies to all of the other aspects of your life too – your health, your interests, your relationships… A prize for anyone who can tell me who first coined the expression: “variety is the spice of life” (they were right).
Side Note: If you are interested in monetary wealth, then take a look at the 100 richest people in the world (e.g. the NY Times ‘Rich List’) – I think you’ll find if you look closely that the vast majority of these, like over 80% actually get most of their wealth from property – it’s still one of the best investments, if not the best investment you can make.
Diversification Example 2: Projects
Renting property is just one ‘thing’ – there’s also investment in business, products and services, renovation projects (I’m doing a couple of those as well), your own personal interests…
I personally have lots of projects – and I would encourage you to too – but only stuff you’re really interested in.
Basically these days I do everything I can think of that I didn’t get the chance or the time to do when I had a day job.
Because life’s too short and if you don’t try it you’ll never know.
These days the world is filled with possibilities to learn just about anything (thanks Google), to collaborate and to try things out to see if they’re for you before diving in fully.
So diversifying, done right should also improve your quality of life – whether that’s with your financial interests or just your personal ones (your hobbies).
Diversification Example 3: Security and Education
A bit of a follow-on from the point about concentration risk, but there’s more to it than that…
As an investor I often get calls offering me fantastic returns in various markets. Colored diamonds, carbon credits, timber, rare earth metals, agricultural land. Heard of any of these?
When I get these calls I have 2 choices. Choice 1 is to say “no thanks”, Choice 2 is a lot of work.
So I usually say “no thanks” and give the reason that I never invest in markets that I don’t know inside out. Having done my due diligence on some of these markets, offers, or the firms making the offers, I know some of them to be complete scams. Others aren’t so you just have to be careful and do your homework.
That brings us to choice 2: The last investment I made which is out of my usual comfort zone was in a hotel business. In order to make this investment, I had to do an awful lot of educating myself in a very short space of time (before the opportunity went away) and in that case, having satisfied myself that there was nothing untoward about this particular opportunity, I went ahead and it has been a good investment.
I now know a little more about this kind of investment than I did before and have a little more security in my portfolio.
So when you do diversify, if it’s adding a new string to your bow, make sure you take the time to educate yourself appropriately first and this will keep you from making bad choices (and therefore good investments).
At the end of the day when it comes to investing your money and getting a good return, then that’s the bottom line ‘stat’ that you should care about (your return on investment (ROI) or ‘yield’ in property terms).
The only thing to bear in mind is this: How safe is that figure?
If you are getting an average of 5% return on your investment and it’s all from one place then that is a huge concentration risk.
If you are getting an average of 5% return on your investment but via a variety of channels, then that’s sensible investing.