Why should you diversify your eToro portfolio?

Trading on eToro offers exciting opportunities, but it’s essential to minimize risk and enhance stability. Portfolio diversification is an excellent strategy for achieving these goals, and we’ll show you how to implement it on the eToro platform.

🌐 What is Portfolio Diversification?

Portfolio diversification is a risk management strategy that involves investing in various assets, issuers, and industries to minimize the overall risk of a portfolio. The aim is to ensure that the prices of the assets in the portfolio do not move together, reducing the impact of economic or company-specific events on the entire portfolio. Diversification is often used in long-term investments and is not intended to yield high returns quickly.

As a very simple example, let’s say you have a portfolio consisting of stocks of 3 different companies, some indices and a few commodities. If one of the stock issuing companies goes bankrupt or performs poortly, you may end up loosing on one of the 3 stocks and not the rest of the assets in the portfolio. As a different example, say that you have invested into 3 different companies from 3 different industries, the airline sector being one of them. Then in case of an event like a global pandemic, the airline sector may end up in losses while the other two would not be affected as badly.

Many times portfolio diversification is used in long-term investment and it is not a strategy you would use to obtain high returns quickly. The reasoning behind this is that in the long-term the addition of various types of assets helps in making higher returns with a risk that is on average lower than the risk of any of the individual instruments in the portfolio. That is the essence of diversification.

Do not forget that diversification is merely a risk managment strategy and does not guarantee absolute results; any trading involves risks of capital losses.

🔍 Understanding the Risks of Investment

Investments face two types of risks: systematic and unsystematic. Systematic risk, also known as market risk or volatility, impacts the entire market and not just a single asset or industry. Unsystematic risk, on the other hand, is specific to each asset or industry and can be diversified away to a large extent by combining various assets and industries in a single portfolio.

As a simple example, if you hold a portfolio of stocks of different companies, if one of the firms does badly because of bad management, you should be able to compensate your losses from that firm with return from the remaining companies. That is the purpose of diversification.

🔗 Asset Correlation

Asset correlation is a crucial. It refers to the degree to which the prices of different assets move together. To optimize diversification, it’s essential to select assets with low correlation, ensuring that their prices aren’t affected in the same way by market events or industry-specific risks.

📊 Achieving Optimal Diversification on eToro

While there’s no one-size-fits-all solution for diversification, the following tips can help you create a well-diversified portfolio on eToro:

1. Explore a variety of assets

Consider investing in various asset classes such as stocks, bonds, commodities, and Exchange-Traded Funds (ETFs). eToro offers over 250 ETFs covering different markets worldwide, providing you with numerous diversification options.

2. Monitor and update your portfolio regularly

Keep an eye on your portfolio’s performance and make necessary adjustments when needed. This includes exiting positions or markets to avoid excessive losses and utilizing the stop-loss function on eToro.

3. Spread your investment across multiple assets

Investing in a wide range of assets and industries can help spread risk and minimize the impact of market events or industry-specific risks on your portfolio.

4. Be aware of the disadvantages of diversification

While diversification offers many benefits, it can also be time-consuming and challenging to manage a diversified portfolio. Additionally, transaction fees or commissions may apply depending on the assets you choose.

🔄 Diversifying eToro

You can also diversify your portfolio using eToro’s CopyTrading feature. Many CopyTraders already employ diversification strategies in their portfolios, which you can leverage to your advantage.

1. Choose traders from different markets

Look for CopyTraders who invest in various markets and industries, or combine several traders with more narrow focuses to diversify your investments.

2. Broaden your horizons

Consider markets or assets that you’re less familiar with by following CopyTraders who have expertise in those areas. This can help you diversify your portfolio without needing extensive knowledge of each market.

3. Examine each trader’s statistics carefully

Use the tools available on eToro to assess your chosen CopyTraders, such as their portfolio exposure, risks, and asset allocation. This can help you better understand their diversification strategies and make informed decisions.

4. Stay up to date with new markets and assets

eToro frequently adds new instruments and markets, providing you with more diversification opportunities. Keep an eye on these additions and consider incorporating them into your portfolio.

5. Diversify based on trading styles and strategies

Don’t just focus on assets and industries—also consider diversifying based on trading strategies. Combining traders with different trading styles and risk levels can help minimize strategy risk and create a more balanced portfolio.

Utilize eToro’s demo account to experiment with diversification strategies and find the right mix of assets and CopyTraders for your portfolio.

In conclusion, diversification is a crucial risk management strategy for trading on eToro. By spreading your investments across a range of assets, industries, and strategies, you can better protect your portfolio from the negative effects of market events and industry-specific risks. Keep in mind that investing always carries risks, and you may lose capital, but with careful diversification, you can mitigate those risks and enjoy a more stable trading experience on eToro.

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• ▸eToro is a multi-asset platform that offers: Stocks, Crypto assets, and CFDs.
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• ▸Past performance is not an indication of future results. Trading history presented is less than 5 complete years and may not suffice as basis for investment decision.
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Be warned!

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Author & Expert Trader - Financial Analyst :

My name is Bart Bregman and I am a full-time professional trader with nine years of experience. I specialize in shorter-term trading using technical analysis, and I have extensive experience with Stocks, CFDs, Options, and Crypto trading. I believe that there is no such thing as a bad trade. I'm currently traveling the world as a digital nomad trader. You can follow my journey on Instagram at https://www.instagram.com/bart_bregman/