You diversify your investments, and your investments diversify your life. Am I being facetious? Is this just word play? No! Absolutely not. There is a very real sense in which having enough investments will allow you to diversify your life when you most need to. As the evil shadow of China and its virus falls on the millions of jobs and businesses around the world, having enough savings or not having enough savings makes a big difference in whether you can diversify your future and your life.
Nowadays, many people find their careers stagnant or shaky at a certain point. Generally, they find it hard to switch to another industry which has better prospects. That's because after a decade or so of working in a kind of a job, you become good at it, but also become its prisoner. In my observation, people who have good savings accumulated at such a point generally manage to weather the crisis and adjust their career path to something better. They are able to diversify their life. In a very real sense, your investments provide you with this ability to diversify your life.
Some years ago, a friend of mine hit a crisis which first made me realise the nature of this problem. This couple both worked in a large IT company. Predictably, a good amount of their investments was in the form of their own company's stock options. On top of that, because they thought they understood the industry well, they also had a good amount of equity investments in other technology stocks.
You can guess the rest. Over the years when the tech industry declined from being a permanent sunrise sector, realisation dawned that the long-term bright future that their industry was supposed to have may turn out to be relatively ordinary. And, at the same time, their investments in their own employer remained stagnant for many years. The same thing happened to their investments in other tech stocks. In fact, many of them did far worse.
This point is not a commonly realised one. Diversification is supposed to be the most important part of any investment strategy. You are supposed to spread your investments across different sectors and industries so that bad times in one may be offset by another. However, diversification must start with diversifying one's life, not just one's investments. Your career is tied up with a particular industry, so your stock investments must necessarily be as far diversified from that industry as possible.
However, for a variety of reasons, the reverse seems to be true. One reason seems to be that many of the employees who receive ESOPs are otherwise not stock investors. They never buy too many other stocks or mutual funds and thus most of their investments are in their own company. Even when they diversify, they have a tendency to buy the stock of other companies in the same industry, probably because they feel they understand the industry or they admire another company in the same industry. This is illusory diversification. Maruti employees buying Tata Motors stock or Infosys employees buying TCS stock may feel like they are diversifying but they are not.
Tying up both your career and your savings to the well-being of the same company (or the same industry) is clearly a case of putting all your eggs in one basket. And that's never a good idea. Consciously diversifying your investments away from the rest of your life will help you in ways that you may not have anticipated. Investing in mutual funds is the best and easiest way out of this diversification trap.
Read the cover story of the December issue of Mutual fund Insight to find out how to approach diversification.