A suitable strategy for successful investing is portfolio diversification. How you diversify your portfolio also makes a massive difference to success, and we’d argue two of the best investments to include are forex and stocks.

The foreign exchange market (forex) accumulates a whopping $7.5 trillion dollars daily, and the global stock market stands with a greater than $100 trillion dollars market. They’re massive markets with massive potential.

Read on to learn why they should be part of your diversified portfolio.

What Is Portfolio Diversification?

The practice of portfolio diversification is the strategy of spreading weight over multiple assets in a portfolio to eliminate risk. Part of your investment could be in your MetaTrader 4 download, another in stocks, and another in a cryptocurrency trading app with some crypto. The point is, all your eggs aren’t in one basket, so to speak.

If we were to think of an investment portfolio as a cake (who doesn’t want to think about cake?), then every investment made is an ingredient blending along for an end product. So if one ingredient stock were to fail, making the investment in the cake even more sturdy by adding more forex or commodities would allow the cake to remain intact.

Investing isn’t risk-free, no matter how sound and secure it may seem. The mix of stocks and bonds can form a 60/40 portfolio, which some people like to select, but you can diversify further. Breaking the undergoing statistics cycle from 1926 to 2021 worked alongside the portfolio, with stocks alone getting 12.3% annually while bonds pulled 9.1%. Not only does diversification ensure destruction or a decrease in risks, it secures the overall return value.

Why Include Forex in Your Portfolio?

Forex investment is a great market with impressive benefits. It is unique because it does not rely on a single company’s profitability but considers interest rates, growth of the GDP economy, and events occurring around the world. You can start building a forex portfolio with a Meta 4 or MetaTrader 5 download. Meta 5 is better for diversifying the portfolio because you can trade stocks, forex, future, and cryptocurrency.

Currency Pair Correlations: First, you need to understand the correlation between currency pairs. For example, EUR/USD and GBP/USD are both positively correlated because their base currency is the US dollar against which they sell against. In contrast, the confluence of USD/CHF often moves in the opposite direction of EUR/USD, which acts as a natural hedge to EUR/USD. A simple correlation ranges from -1 to 1, where -1 shows a strong negative correlation and 1 a strong positive correlation, so traders can know which pairs hedge their portfolios.

High Liquidity: Traders can enter and exit the market at will, and because of the forex market’s nature, there’s exceptional liquidity, which makes this possible. As a result, slippage reduces, and better price execution is achievable in turbulent markets.

Stocks in Diversification

Investing in stocks provides growth over a long term and nourishes that gap when a trader is not dealing in forex. Statista even reported that the global equity market was $70 trillion in 2017 and now in 2023 has reached more than $100 trillion—that’s massive growth rates. This credible growth highlights the essence of the value of shares in an economy.

Sectoral Diversification: You could generalise the fall of one industry by investing in other industries, like technology, healthcare, and energy. For example, during the COVID-19 pandemic, the Apple and Microsoft shares increased while the energy sector suffered losses.

Regional Diversification: Enhancement of portfolio returns may happen with investments on international fronts, like India or Brazil, coming from an emerging market. Sometimes, indices of emerging markets equity were more competitive than developed ones, like in 2021 when the MSCI Emerging Market Index rose by 18.2% compared to the S&P 500, which rose by 16.3% during the same period. 

Strategies for Balancing Forex and Stocks

Planning is required heavily for a well-diversified portfolio.

  1. Allocate Wisely: This approach recommends risk-based investment distribution. For example, bold investors may seek to have 60% invested in stocks and 40% in forex, while cautious investors would maybe prefer 30% in stocks, 40% in forex, and 30% in bonds.
  2. Combine Technical and Fundamental Analysis: Technical indicators like the RSI and MACD can be used for trading on forex, while P/E ratios and dividend yields can be used to assess suitable stocks. Strategies come out because of combining these approaches.
  3. Hedge Against Risks: Forex strategies can be adopted to hedge stock market risks. For instance, if you invest in US stocks, shorting the USD/JPY could be a useful hedge in case the US dollar depreciates.

Potential Risks and How to Mitigate Them

In as much as diversification is done to lower risks, it is not guaranteed those risks will not be there at all. Here are some possible risks and how they can be mitigated:

  1. Currency Volatility: Thanks to instability of currencies like the South African Rand and Turkish Lira, it will be safer to use major pairs like the Euro and USD.
  2. Market Correlations: It is commonly observed that during periods of global financial market dislocation, cross-border correlations between asset classes tend to be larger, making diversification less appealing. To mitigate this effect, consider adding assets such as gold or real estate that have no correlation.
  3. Over-Diversification: Being overly diversified in the number of assets will lower the profits in returns. A portfolio of 20-30 investments should be adequate.

You need to remember that diversification needs to be reviewed and adjusted from time to time. However, you do it, stocks and forex are definitely great ways to diversify your portfolio.

 

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