What is naive diversification?
An approach to investing in which an investor selects a number of different assets to invest in, in the hope that this lowers the overall portfolio risk.
Where have you heard about naive diversification?
The familiar phrase, ‘don’t put all your eggs in one basket’ sums up the naive diversification approach. Many individual investors adopt this strategy without realising as it’s an easy, intuitive approach to investing.
What you need to know about naive diversification.
Naive diversification assumes that investing in many different assets reduces overall portfolio risk without needing to calculate exact weightings using a mathematical model. For example, an investor may divide their money equally between all their investment options regardless of what these are.
At first glance, you may think this intuitive approach to investing will be less effective than using mathematical models to calculate an optimum range of investments. However, in practice, various studies have found that the naive diversification approach can do equally well as a strategy developed using sophisticated models.