Reduce investment risk using asset allocation and diversification

Reduce investment risk using asset allocation and diversification

When dealing with financial decisions, due to a lack of knowledge or a thirst for profit, some people do not realize or even deny the risks they may face. Some others are too anxious to start investing, therefore wasting many opportunities to generate additional income from idle assets, all while still subjecting themselves to the unavoidable risk of inflation. In order not to fall into either of these cases, we must have a scientific approach to personal finance. In this article we will discuss one of the most basic theory of investment: reducing investment risk using asset allocation and diversification.

Basic investment risks

To begin, let’s categorize the two main types of risk in investment:

  • Systematic risk (market risk): Systematic risk is related to factors affecting the economy, thus having a profound impact on many assets and investments. Inflation is a typical example of systemic risk.
  • Non-systematic risks (specific risks): Risks affecting specific investments.

If systematic risk is difficult to control due to its great impact and often sudden occurrence due to factors such as natural disasters, epidemics, riots, economic recessions,… Non-systematic risks can be effectively controlled through appropriate asset allocation. In both of these cases, portfolio diversification has certain positive impacts on risk reduction for investors.

How to reduce investment risks

In reality, no single form of investment is 100% risk-free. However, before investing, you always have the opportunity to self-assess risk in order to minimize damage when bad scenarios happen. We will discuss two main types of damage mitigation: Accurate risk assessment of the investment vs. asset allocation and portfolio diversification.

Accurate risk assessment of the investment

Lợi nhuận cao thường đi kèm với mức rủi ro cao

There are many methods for assessing the risk of the investment, but one of the extremely basic principles that you should memorize is:

High profits often come with a high level of risk

For a stock investment, in order for you to make a profit from owning the stocks of a business, that business would have to operate effectively or make good investments itself to make a profit – with your money used as capital. In order for the profit to be high, the scale of the business or the investment must be equally as large, or the strategy itself would have to be novel and risky. These three factors inevitably lead to greater losses when bad scenarios occur.

Cryptocurrency itself is a high-risk investment because at the present the value of digital assets is still subject to large fluctuations. We need to clearly identify this characteristic of investing in cryptocurrencies in order to start taking appropriate risk mitigation measures, such as through asset allocation and diversification of portfolios with the use of stable assets (for example, Stablecoins like VNDC, USDT, USDS or Vietnam Gold Token (CHI)).

Asset allocation and portfolio diversification

Asset allocation and portfolio diversification are the act of of investing in different asset classes.

The generic asset classes that you might consider investing in are:

  • Stocks
  • Bonds
  • Currencies
  • Real estates
  • Commodities

In recent years, cryptocurrencies have also become an extremely promising asset class that you can add to your portfolio, besides traditional currencies.

Allocating your assets and diversifying your portfolio requires not just owning a variety of assets but also having the appropriate proportion of each asset; as well as a level of diversification in each of these asset classes themselves. Let’s say 20% ​​of your investment is in stocks – an asset class. You will also have to divide these 20% into different stocks of different businesses in order to maintain diversity. The goal of this action is to maximize returns while ensuring the risk is as low as possible.

However, the process to achieve this goal depends more or less on subjective factors such as the amount of data available, the amount of time and effort you can spend on investing, as well as your risk tolerance. The wise investor will study the risks of each type of assets and forms of investment, then actively buy or sell to suit his preference.

The golden rule of asset allocation and portfolio diversification

To solve the problem of asset allocation and portfolio diversification effectively, let’s take a look at the Modern Portfolio Theory (MPT). It was explained in an article published by Harry Markowitz in 1952, who later won the Nobel Prize in Economics.

According to Harry, large asset classes often do not often have the same pattern of fluctuation. When there are changes in the market, one asset class may increase in value while another may lose value. With that in mind, we can minimize the negative impact when a class of assets you own declines in value by owning other assets whose value is increasing in value.

By owning uncorrelated asset groups (assets that don’t tend to increase or decrease with the same patterns), we can minimize the volatility of the portfolio. In most cases this means a higher return on investment, or at least more peace of mind.

When an investor combines hoarding gold with securities and cryptocurrency investments, he is cleverly applying Markowitz’s theory. The reason for this is because gold price often move in the opposite direction compared to the price of stocks and cryptocurrencies.

How to utilize cryptocurrencies in asset allocation and portfolio diversification?

How to utilize cryptocurrencies in asset allocation and portfolio diversification

When it comes to cryptocurrencies, many people only think of Bitcoin (BTC), which is known for its very high volatility. In reality, the cryptocurrency market also includes Stablecoins, whose values ​​are defined by legal currencies, such as:

  • USDT (Tether) and USDS (Stably): The value of 1 USDT / USDS is guaranteed to be equal 1 USD during exchange
  • VNDC: The first Vietnamese Stablecoin with a guaranteed exchange rate of 1 VNDC = 1 VND (Viet Nam Dong)

Similarly, we also have CHI – Vietnam Gold Token, with 1 CHI = 3.75g of Gold.

The presence of traditional cryptocurrencies as well as Stablecoins gives you an additional selection of assets to add to your portfolio. By using the VNDC Wallet app, owning a variety of digital assets is extremely easy through the Buy VNDC feature:  You can buy VNDC directly through bank transfers, then exchange to BTC, ETH, CHI, USDT and USDS at no additional cost.

You can start using VNDC Wallet today by downloading the mobile application at the following link:

(Or search on mobile application stores using the keyword: “VNDC Wallet”)

You can also view more detailed instructions for the mobile VNDC Wallet app here: https://support.vndc.io/

Matthew A dreamer, an adventure hunter whose life goal is to create big products that help life better. Now, I am building VNDC's products with a dream to become an open financial system for Vietnamese people in the world.
Subscribe
Notify of
guest
0 Comments
Inline Feedbacks
View all comments