Investment vs Portfolio

Adapted from:

Knowledge, Ideas & Perspective (KIP)

"A Just Get to the Point Newsletter"

Understanding the Difference Between an Investment and a Portfolio

I hope this email finds you well! Today's newsletter is about the difference between an investment and a portfolio. These are two concepts that need to be understood in order to understand proper diversification and risk.

• Investment

  • An investment is simply the act of allocating funds to a specific asset or financial instrument with the expectation of generating a return or profit over time. Investments can be anything from stocks and bonds, to real estate, commodities, or even starting a business.

• Portfolio

  • A portfolio refers to the entirety of a the investments held. So the mix of stocks, ETFs, and real estate that someone holds could be considered their entire investment portfolio. Similarly, you could refer to various parts independently (i.e., your stock portfolio or your real estate portfolio).

  • The purpose of constructing a portfolio is to spread and/or reduce risk. 

What I really want people to understand, though, is that any individual investment should be considered both on its own and as part of an overall portfolio.

How does this work in practice?

Think about it like this:

• You hear about a great new company and you're dying to invest in it. But being an educated investor, you know that if you put all of your money into this single company, then your entire fortune depends on how that company does. You think you could make a killing, but since you don't have a crystal ball, you need to reduce your risk.

• You decide to diversify by finding another company that does something entirely different than the first one, and choose one that has been around for a while. This second company may not have as much room to grow, but at least it's a bit safer, as they seem to be quite stable.

You've now reduced your risk! You've taken the time to see that both companies are good investments on their own, and now they are working together in your portfolio. One is new, one is old; one does one thing, the other does something completely different. Unless something crazy happens to the economy as a whole, these two companies are likely to rise and fall independently from each other, which means you've begun to diversify intelligently.