22 Jul 2022 | Edukatips

Definition, Example and Strategy of Diversification in Investment

Definition

Diversification is a term that is closely related to business and investment. Simply put, diversification is an investment strategy carried out by individuals and companies to develop various investment products in order to minimize the risk of unexpected conditions in the future while maximizing profits.

Diversification is a risk management strategy that combines various investment instruments with different characteristics such as asset class, currency, geographical location, and sector  to minimize the risk of loss due to the decline in the value of certain investment assets.

A professional investor will certainly put his funds into several investment instruments. So, when one investment experiences a decrease in its asset value, not all investments are significantly affected or as the saying goes do not put all your eggs in one basket.

Types of Diversification in Investment

  • Asset Class Diversification

It refers to investment diversification across different asset classes. Basically, asset class can be distinguished based on its product characteristics such as risks and liquidity. In general, asset classes are divided into:

  • Cash

It is a product with relatively low risk compared to other classes and is the highest liquidity asset. The products include cash, savings, money market funds, deposits, bonds under 1 year, and other money market instruments.

  • Bonds

Bonds carry higher risk compared to cash asset, with coupon yield returned at a specified period. Products classified in this asset class include Government Bonds (SBR, ST, SR, ORI, FR, PBS, INDON & INDOIS), Corporate Bonds denominated in IDR and USD, and Fixed Income Funds.

  • Equities

While it carries higher risk compared to cash/bonds asset, stocks offer higher profit potential, or commonly known as high risk high return. The products include stocks and equity funds.

  • Gold/Safe Haven Assets

It is a relatively safe product and acts as a hedge amid market volatility due to economic, political, geopolitical uncertainties. For example, gold, US Government Bonds, US Treasury, USD, CHF, and JPY currencies.

Asset class diversification is carried out to prevent concentration risk and reduce potential losses in changing market conditions.

  • Currency Diversification

It refers to investment in more than one currency. For example, when the Covid-19 pandemic first occurred in Indonesia in March 2022, IDR depreciated against USD, down to 16,500. If all investments were in Rupiah at that time, then all of them would be significantly affected following the weakening of Rupiah. It would be different if they were divided into several different currencies, for example, 60% in Rupiah and 40% in USD. The investment value can be further minimized.

Investors can invest in IDR & USD through Mutual Funds and Bonds at BCA.

  • Geographical Diversification

It refers to investing in products across different geographic regions around the world without having to live in those countries. It is done to reduce overall risk if you invest in only one country. If something happens that affects the economic situation of said country, not all investment products will be significantly affected. Geographical diversification can be applied by dividing the portion of the investment across multiple regions, both onshore and offshore. For onshore investment, investors can invest in cash, mutual funds in USD, bonds, mutual funds and stocks in IDR, whose funds being committed in home country. Meanwhile, for offshore investment, investors can invest in cash and mutual funds in US Dollars, whose funds being committed abroad.

Examples of offshore mutual funds that are available at BCA include BNP Paribas Cakra Syariah USD & Schroder Global Sharia Equity Fund (USD), whose investments are committed in the US market and other developed markets, BNP Paribas Greater China Equity Sharia USD that commits funds in China market, and  Manulife Saham Syariah Asia Pasifik Dollar AS in the Asia Pacific market.

  • Sector Diversification

It is an investment in products from various industries. Sector diversification can be done by dividing the portion of the investment across different sectors. For example, a mutual fund portfolio that commits a portion of its funds in the Batavia Technology Sharia Equity USD, which focuses on the technology sector, another portion in the BNP Paribas Sri Kehati, which focuses on ESG (Environmental, Social, and Governance), and the remaining in a mutual fund whose underlying investments are spread across different sectors such as Schroder Global Sharia Equity Fund (USD) or Batavia Dana Saham and other equity funds.

Investors can commit their funds in mutual funds in multiple countries and sectors as well as into bonds denominated in IDR or USD. To make it easier for you to monitor and make an investment, as well as enjoying attractive investment promos, investors can manage their portfolio through Welma feature in myBCA. For further information, please contact Halo BCA 1500 888 ext. 4 for investment services.