Financial Focus   Provided by Michael J Haynes Edward Jones Investments Diversification Can be a Life Saver Edward Noble was one of those people who understood that variety is the spice of life. In 1913, he approached Clarence Crane, the inventor of the peppermint Life Saver, with the idea of producing the candy in a variety of flavors. Crane didn't want any part of this plan, so he sold Noble all rights to the candy for $2,900. Today, Life Savers is a billion-dollar business, and the reason Noble became owner of it -- and not Crane -- was because he knew the value of diversification. He didn't base his success on the sales of just one flavor of candy. He knew that by offering a variety of flavors, he could appeal to more people. At the same time, he protected his business should any one flavor fall from grace with the public. Like Edward Noble, smart investors understand the value of variety. They know that variety is the foundation of a good investment plan. Whether you call it diversification, asset allocation, or simply "not putting all your eggs in one basket," the benefits of spreading your dollars among a variety of investments cannot be overstated. One of the main benefits of choosing a variety of investments is that you have some protection should one of those investments experience a downturn. No single investment performs well under all conditions. In fact, different types of investments sometimes go in opposite directions. For example, when the stock market declines, bonds generally perform well and vice versa. Owning both types of investments will benefit you in nearly any economic environment. Diversification also protects against loss of purchasing power. Having all your money in fixed-income investments, such as bonds and CDs, will not allow you to keep up with inflation. Why is this important? Consider for a moment what has happened to the price of bread over the past 50 years. Year $1 would buy: 1950 Nearly five loaves of bread (Bread cost 22 cents per loaf.) 1970 Three loaves of bread (Bread cost 33 cents per loaf.) 1990 One loaf of bread (Bread cost 89 cents per loaf.) 2003 Not even one loaf of many brands of bread. So, although you usually know exactly how much a fixed-income investment will return at maturity, what you don't know is how much purchasing power that money will retain. Placing a portion of your assets in growth invest- ments, however, has historically allowed you to outpace inflation. Another benefit of diversification is that it offers the potential for better returns. Consider the example of two individuals, each with $10,000 to invest. Investor A uses the entire amount to purchase U.S. government bonds paying 5.25 percent. Twenty-five years later, his investment is worth more than $54,000. Investor B, however, decides to spread his nest egg among five different types of investments. The first three turn out to be good choices. He places $2,000 in an international investment that averages a 15 percent annual return, $2,000 in a growth-and-income investment that averages 10 percent annually, and $2,000 in a tax-free municipal bond paying 5 percent. His other two investments are not as successful. One breaks even, and the other is completely lost. How badly do these two investments hurt his return? At the end of 25 years, Investor B has more than $96,000, roughly 44 percent more than Investor A. This example illustrates the importance of diversifying by type of investment. Investor B's portfolio included a growth investment, a growth- and-income investment and a fixed-income investment. It's also important to choose a variety of investments within each category. For example, with growth and growth-and-income investments, such as stocks and stock mutual funds, many investors concentrate too much of their money in companies that are familiar, such as consumer goods and utilities. Others lean too heavily on what's hot, like technology stocks. Stocks and stock mutual funds should represent a variety of companies and industries. Diversifying this way could protect you from negative events in any one company or industry. You can also diversify the fixed-income portion of your portfolio. These investments could include bonds with short-, intermediate- and long-term maturities. This practice, called laddering maturities, protects you against interest-rate fluctuations. When interest rates fall, you have money invested at higher rates. When interest rates rise, you have money available to invest at those higher rates. The specific mix of investments that's right for you depends on your needs for safety and return. Ask a professional to review your investments to make sure they're adequately diversified. The few minutes you spend evaluating your portfolio can be a priceless investment. As Edward Noble discovered, diversification can be a life saver.