Is it a good idea to diversify into stocks within the same sector?

Betting on one stock means you expose yourself to a number of factors that could cause the stock price to spiral downwards, including a weak economy, sector collapse, an abrupt management change or disappointing financial performance. Every investor wants to maximize return, the earnings or gains from giving up surplus cash. And every investor wants to minimize the risk associated with it because it is costly. Diversification allows for minimizing the risk associated with any investment while allowing for sizable returns.
For this, you need to invest in assets that are not vulnerable to one or more kinds of risk. For example:
  • Reducing economic risk by diversifying between cyclical and non-cyclical investments
  • Reducing asset class risk by investing in more than one asset class
  • Reducing industry risk by dividing your investments between different sectors
  • Reducing company risk by not concentrating your investments on just one or two companies.
Now, as you can see from the options given above, diversifying into stocks within the same sector exposes your portfolio to industry and economic risk. So, make sure that your whole stock portfolio does not comprise of stocks vulnerable to similar sectoral downturns and cyclical patterns. One or two stocks from the same sector distributed evenly through an otherwise sectorally diversified stock portfolio will not be challenging. In the diagrams given above, portfolio B is an example of a well-diversified portfolio.
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