Best hedge against dips is diversification

By Eileen Alt Powell
Associated Press

NEW YORK — Financial advisers have been urging their clients for years to diversify.

Many savers ignored that mantra during the market boom of the 1990s, when just about anything they invested in turned a profit. But with the stock market in the doldrums and threatening a third consecutive year of negative returns, it's more important than ever to heed such advice.

It means that your savings should have a mix of stocks and bonds and "cash," such as money market funds, to lessen volatility and limit losses.

"A lot of investors have watched their balances go down 30 percent or more," said Dee Lee, a financial planner who heads Harvard Financial Educators in Harvard, Mass. "That's painful. But people shouldn't panic."

Most savers have time to make up the losses, she said. "Even if you're retiring in a week, you're not going to need all your money immediately," she said.

The reason to diversify is that by combining a variety of investments, you reduce your risk because they're not all likely to move in the same direction at the same time. When stocks fall, bonds often rise. Mutual funds investing in growth companies were hot in the 1990s, now funds that invest in value companies are doing better.

Michael Wilson, who runs Wilson Woodworking in Windsor, Vt., with his brother Paul is giving some thought to diversifying.

His retirement account, a SEP IRA, has three equity funds that have lost money and a real estate fund "that isn't down, but isn't doing great." So far he's holding on.

"I'm 40, and I have time," he said. "I'm not going to sell or move everything around, because I expect the market to rebound eventually."

Still, when he makes his annual investment choice in January, he may look at adding a bond fund to his holdings, he said. He notes that Paul, who is 44, added a bond fund last year "and he's done better this year than I have."

Dan Carlson, a 401(k) product manager with asset management firm Delaware Investments, said that investors should sit down at least once every five years and determine what their asset allocation should be.

"As a 40-year-old, you might want to have 60 percent in stocks and 40 percent in fixed-income," he said. "At 60, maybe you want only 40 percent in stocks."

Then periodically, either quarterly or annually, you should compare your holdings to your plan and rebalance.

The advantage, he said, "is you're managing your money according to a plan ... not reacting to volatility in the market."

Mark Briggs, a financial planner in Glastonbury, Conn., said that diversification also means investors shouldn't have too much of their investments in a single company's stock. That sometimes can happen if employees get matching amounts in company stock or participate in stock purchase plans.

"The maximum you hold should be 10 percent to 15 percent," Briggs said.

He noted that a number of corporations have changed their rules on how long an employee has to hold company stock after the collapse of Enron.

Some investors worry about selling stock now when share prices are down, but Briggs says that risks even further losses.

"You need to get into a defensive mode as quickly as possible," he said. "The sooner you move to a balanced, diversified portfolio, the better prepared you'd be for whatever happens."