Diversification (1 of 2)
By: Tom Copland
In my experience, I’ve seen too many cases where an individual has invested the majority of retirement funds in one company or in one sector.
For “a season” these investments may do well, but inevitably every company and sector falls on bad times. This results in significant losses because the portfolio was not diversified in a manner that was consistent with God’s Word.
Because no human can consistently predict the direction of any market (see James 4:13–15), it is important to diversify your assets into different categories of investments that will likely react differently to any given market condition. The Bible recommends this type of diversification.
“Cast your bread upon the waters, for after many days you will find it again. Give portions to seven, yes to eight, for you do not know what disaster may come upon the land.” (Ecclesiastes 11:1, 2)
At the time this was written, “Cast your bread upon the waters” was a metaphorical expression used in the grain trade that illustrated the potential successful prospects of a business investment (per Dr. Charles Ryrie’s study bible). In short, it is biblical to take some risk within one’s portfolio, however, verse 2 recommends diversifying your investments into 7 or 8 categories, because you do not know what disaster may come upon any particular company or sector.
In 1999, I met with a client who had invested most of his money in 25 technology stocks. I recommended biblical diversification of his portfolio. He believed he was diversified because he owned 25 different stocks. I explained to him that generally, all stocks in any particular sector will react the same under the same market conditions. He made no changes and as a result, during the bear market (2000-2004), his portfolio decreased 70% in value!
Biblical diversification is obtained by allocating one’s assets into different types of investments that will probably react differently to any particular market condition. Here are some examples:
1. During inflationary times (e.g. the 1970s), natural resource equities, commodities and real return bonds increase in value, while medium and long-term bonds do very poorly.
2. In a period of deflation (e.g. 1991-1995), medium and long-term bonds generally increase in value, while natural resource equities, commodities and real return bonds usually do poorly.
Further, diversify your assets among several sectors of the economy and to appropriate countries, as generally, this will reduce the risk and volatility of your total portfolio.
Many investors try to “time the market”—that is, they buy when they believe that the market is headed higher and sell when they believe the market is going lower. God says (and history shows) that no human can consistently predict the future value of any investment (Prov 27:1).
Therefore, unless God specifically directs you otherwise [John 10:3, 4, 27], there is a need for biblical diversification in one’s portfolio because, under normal market conditions, if one category of investment decreases in value, generally another category will likely be increasing, thus reducing the volatility of your total portfolio. Over the long run, a well-thought-out biblically based portfolio should provide reasonable returns.
In summary, it is biblical to take on a reasonable amount of risk within one’s investment portfolio. However, God recommends diversification. This will reduce the risk and volatility of your portfolio. See my next Financial Moment for suggested asset allocations.