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Though one of the most commonly repeated idioms on the topic of portfolio diversification, the advice of “not putting all of your eggs in one basket” simply doesn’t suffice when strategising an adequately balanced portfolio as an experienced investor in this current day and age.
The considerable power of a well-balanced portfolio has long been recognised across the investment sphere.
From Hood and Singer’s renowned ten-year 1991 pension fund study whereby findings suggested asset allocation accounted for 91% of variation in portfolio returns, to more recent widespread analyses that have merited the effectiveness of a diversified portfolio in minimising investment volatility throughout major fluctuative events such as the 2008 financial crash, the evidence in favour is extensive.
But where portfolio diversification is now a well-adopted and largely accepted strategy for creating risk-balanced, growth-focused portfolios that have the ability to generate favourable returns and mitigate downside, identifying the specific routes investors can follow to develop a robust portfolio diversification strategy is not always obvious.
So what is portfolio diversification?
At its core, portfolio diversification is the strategy of spreading your capital across different types of investments so that your risk is not concentrated in one place. But too often, the concept is simplified to “not putting everything into stocks” or “holding a mix of cash and shares.”
In reality, true diversification can be as granular as you like. It might involve allocating across:
- Asset classes
- Geographic regions
- Sectors and industries
- Risk profiles
- Liquidity levels
- Tax efficiency
Let’s take a closer look at the key dimensions of diversification and how they work together to build stronger portfolios.
Diversifying by Asset Type: Spreading Risk Across Investment Categories
One of, if not the most fundamental aspect of portfolio diversification is spreading your investments so that your exposure to any one asset type is limited. This is alos undoubtedly the most common approach to diversification, and infact naturally ticks the boxes of some of the other methods.
Over the last 20 years, we have seen global “asset leadership” consistently fluctuate year-on-year. Where in 2018 international stocks were the best performing asset, in 2019 cash was supreme and in 2020 Real Estate Investment Funds - a pattern that has repeated itself over the course of the last two decades (as illustrated in a 2021 MFS report).
To combat this fluctuating nature of asset class performance, many experienced investors choose to devise portfolio diversification strategies that consider a number of well-performing asset classes.
This approach not only serves to mitigate potential risks from any one asset class’s failure (think the recent global cryptocurrency market crash), but has the ability to position investment portfolios favourably for future market exposure to growth - a strategy often manifested in the form of a balance in short and long term oriented investments.
One of the most traditional models — the 60:40 portfolio (60% equities, 40% bonds) — was designed with this in mind. The idea is to blend higher-growth, more volatile assets (like stocks) with lower-risk, long-term assets (like bonds) to create balance.
However, recent macroeconomic shifts and the rise of alternative asset classes have challenged the viability of the 60:40 model. Inflation, fluctuating interest rates, and market uncertainty have prompted investors to look further afield — to assets that offer not only growth potential, but tax efficiency, inflation protection, and diversification benefits that traditional tools may no longer provide.
High-interest bonds
Recent fiscal pressures noticed throughout the UK - from high inflation rates post covid to fluctuating interest rates that once saw the BoE’s base rate remain at 0.1% for the 20 consecutive months - have put increasing pressure on investors’ portfolios this year, especially those that rely on a large proportion of low-interest bonds in a 60:40 split.
With popular low-interest bonds such as gilts and corporate bonds often targeting low APRs, this means that, in many cases, capital held in such assets can, relative to inflation, be eroded over time.
According to a The Times piece, these stubborn economic pressures have been the root cause of many investors’ decisions to move away from traditional portfolio diversification strategies, favouring low-interest bonds, and instead opting for more flexible, higher-interest options such as property bonds.
Though a host of bond types can be argued to be suitable alternatives to diminishing government bonds, the asset-backed nature, tax-efficient features (utilising a £20,000 tax-free ISA allowance via the IFISA) and ability to transact on a less centralised basis via peer-to-peer (P2P) loans, are all features that have promoted the suitability of property bonds in a diversified portfolio in recent years especially.
Joint venture property investing
Following the recent rapid acceleration of the UK housing market that saw more than 700,000 house sales in progress in June 2021 (in what was the highest figure noticed in the past decade), diversifying into property has become an increasingly popular choice for experienced investors this year.
And where assets such as property bonds have often been targeted by investors seeking more gradual, incremental returns, joint venture property investing (JV) has been outlined as a high target growth alternative for investors looking to take advantage of the property market with potentially more aggressive returns.
A temporary, formalised partnership of builders, finance houses and developers that contract with one another over the development of a particular project, JVs - although possessing the notable risks associated with property development - can allow investors to negate the higher costs, barriers to entry and liabilities associated with traditional routes such as buy-to-let, and are often easily accessible via co-investment platforms.
Therefore, for experienced investors with ambitious growth goals and knowledge of potential risks, it’s no surprise that the JV route is playing a growing role in many a portfolio diversification strategy ahead of the UK’s forecasted 20.2% increase in average property price between 2024-2028 after successfully meeting house price forecasts in the 5 years up to 2025.
Venture capital investments
Traditionally, stocks have played a significant part in the average investor’s portfolio. A widely available asset class that has the potential to generate high growth in short periods of time whilst also offering a longer-term, gradual growth focus when utilised through investment methods such as index funds, stocks have long been a global go-to when constructing a diversified portfolio.
But the high volatility associated with stocks (noticed especially recently due to turbulent global stock market conditions) married with the rapid acceleration of the UK startup landscape has led many investors to reconsider the balance of stocks to venture capital investments in their portfolio.
With early-stage investment consistently backed by government policy throughout 2025 so far, the emphasis on UK venture capital in investment portfolios has grown further.
Investment schemes such as the Enterprise Investment Scheme (EIS) and Seed Enterprise Investment Scheme (SEIS) have been highlighted as especially attractive routes for experienced investors looking to adapt their portfolio diversification strategy to be less reliant on stocks.
The schemes’ generous tax reliefs (including up to 50% income tax relief), key focus on promising early-stage companies and high target growth positions them as particularly attractive investment opportunities for investors looking to minimise risk, maximise returns and generate positive social impacts amidst the recent UK startup surge.
Diversifying by Sector: Gaining Exposure to Multiple Industries
Though spreading risk across a host of asset classes is arguably the most important step to consider when building a robust, risk-balanced portfolio diversification strategy, diversifying investments across industries is another key factor to consider, especially when one asset class dominates an investor’s portfolio.
The key motive for this strategy is to ensure that, should an industry be hit by a significant downturn (such as the global airline travel industry, which noticed global stock levels drop to less than half their prices in 2019), an investor’s portfolio would not bear the full impact, but rather absorb the hit due to its spread of risk across sectors.
A 2017 Bloomberg analysis conducted on FTSE 100 stock index weightings over the previous decade gives further evidence to the importance of sector risk spreading in a portfolio diversification strategy.
Whilst the study revealed the three front-running industries in the index of finance, energy and consumer staples remained the same, differences such as a 36% decrease in the percentage weighting of the UK telecom industry from 2007-2017 suggested significant shifts in leading industries’ performances were still very possible.
Though case studies and industry data have long supported the merits of applying sector-by-sector risk allocation, this doesn’t necessarily mean an investor must distribute capital across distinctly opposing industries.
Should, for example, an investor wish to capitalise on multiple investments into the UK’s burgeoning tech sector whilst maintaining a diversified portfolio, this could still be achieved by distributing investments across a range of sub-sectors.
From data-rich fintech platforms like Finance Nation, to innovative threat intelligence providers such as Intelligence Fusion to touchless digital ordering specialists like Qikserve, investing across a range of sub-sectors can be just as effective in spreading risk, especially when combined with tax-efficient investments.
Diversifying Away from Booming Industries
An often-overlooked aspect of sector diversification is the importance of not overconcentrating in high-growth, high-profile industries. While these areas can offer strong short-term gains, relying too heavily on them may expose a portfolio to heightened volatility and downside risk.
The dot-com bubble of the late 1990s offers a clear example. Investors rushed to capitalise on the rapid adoption of internet technologies, often allocating disproportionately to speculative tech stocks. When the bubble burst, many portfolios suffered significant losses. However, those with exposure to more stable sectors — such as telecommunications, healthcare, or gold — were comparatively insulated. Telecom companies with real infrastructure and cash flows held up better, healthcare was seen as a defensive sector, and gold served as an effective hedge.
This historical lesson highlights the importance of balance. Diversifying across sectors isn't just about capturing growth, it’s also about building resilience. Including allocations to sectors that may not be in the spotlight today, but that offer long-term stability or counter-cyclical potential, can help smooth out returns across different market cycles.
While it can be tempting to lean heavily into whichever industry is currently surging — whether that’s AI, renewables, or biotechnology — it’s essential to consider the broader composition of your portfolio. A more measured approach, with exposure to both high-growth opportunities and traditionally defensive sectors, can offer a more robust foundation for long-term wealth creation.
Diversifying by Location: Looking Beyond Your Domestic Market
Diversifying by location is another well-known principle, but while it comes naturally to some investors, it can feel a bit unnatural to others. For example, many U.S. investors tend to have the vast majority of their portfolio tied up in U.S. assets. It’s familiar, it feels safer, and often, the tax advantages reinforce that home bias.
At GCV Invest, we often see international investors looking to back UK startups, not just for the potential returns, but as a way to diversify across both asset types and geographies. And interestingly, many do this regardless of whether they can claim the associated UK tax reliefs. That tells you something, location-based diversification isn’t just about tax; it’s about opportunity and balance.
There are several dimensions to geographic diversification. Some investors seek exposure to fast-growing or underdeveloped markets, where valuations may be lower and growth potential higher. Others may deliberately prioritise more stable or lower-risk countries to balance out their portfolio. For instance, someone might view the U.S. market as saturated or overvalued in the short term, while seeing better value in overlooked or emerging regions.
Not all diversification is about downside protection, sometimes it’s about upside potential. Chasing growth opportunities abroad can naturally lead to a more geographically spread portfolio, even if that wasn’t the original intention.
Of course, politics, geopolitics, trade agreements and public investment all come into play. A sudden shift in policy or an unexpected crisis can have a dramatic effect on an entire region’s economic outlook. And that’s the point: you could have what looks like a perfectly diversified portfolio on paper — spread across sectors, risk levels, and tax wrappers — but if it’s all rooted in one country, a single unexpected event could still wipe out a disproportionate chunk of it.
So as with all these methods of diversification — whether it's tax structure, asset type, liquidity, or risk profile — the key is balance. Location-based diversification is just as crucial, and when it’s done intentionally, it can complement the rest of your strategy beautifully.
Diversifying by Risk Level: Balancing Growth with Stability
Another common way investors diversify is by risk level. This is often seen in pension pots, where individuals can choose a risk profile that suits them—typically balancing a mix of higher-risk equities and lower-risk bonds.
But risk-based diversification isn’t just for pension plans. In fact, diversifying beyond solely pension investmetns in the first place can be seen as smart move for some. For example, someone might balance a low-risk cash ISA with higher-risk venture capital investments, emerging market funds with greater growth potential, and globally diversified lower-risk funds. That’s a broad spread in terms of risk exposure, offering both stability and growth potential.
It’s worth noting that many of the highest-returning investments often come with higher levels of risk. Investors who are too risk-averse can sometimes miss out on strong opportunities. Allocating even a small portion of your portfolio to higher-risk, higher-reward assets—particularly those that come with added incentives like tax reliefs—can be a sensible way to diversify and benefit from both ends of the risk spectrum.
Diversifying by Tax Efficiency: Enhancing Returns with Smart Structures
Tax-efficient portfolio diversification is more than just a bonus — it's a strategic way to build and protect wealth across different investment types.
We often think about diversification in terms of spreading capital across different sectors, asset classes, or geographies. But there's another layer to it — how those investments are taxed. Holding a mix of tax-advantaged and taxable assets gives you more flexibility and resilience in the long run.
For example, maximising your ISA allowance lets you grow investments tax-free. At the same time, you might hold property or crypto, where you’ll eventually pay capital gains tax. These are two completely different tax treatments — and that’s a strength, not a complication. It’s a way of saving and growing wealth through different channels, which is really the essence of diversification.
This is exactly where EIS (Enterprise Investment Scheme) and SEIS (Seed Enterprise Investment Scheme) can come into play — and why they’re such powerful tools for investors. They not only open the door to high-growth private companies, but they also come with a suite of generous tax reliefs. You can claim income tax relief of up to 30% (or 50% for SEIS), defer or eliminate CGT, and benefit from loss relief if things don’t go to plan.
By allocating part of your portfolio to EIS or SEIS investments, you’re diversifying in multiple ways:
- Across asset types — adding venture capital to the mix.
- Across risk levels — early-stage businesses offer high growth potential but also higher risk, balanced by the tax incentives.
- Across tax treatments — reducing your exposure to tax-heavy assets and using government schemes to your advantage.
So, while EIS and SEIS are often pitched for their tax perks, the real value comes when you see them as part of a broader, tax-efficient portfolio strategy. Not only do they support innovative UK businesses, but they also help you build a more balanced, futureproof investment portfolio.
Diversifying by Liquidity: Blending Short-Term Access and Long-Term Growth
Another layer of diversification that often gets overlooked is liquidity — how quickly and easily you can access your money if you need to. It's not just about what you're investing in, but how accessible that investment is.
For example, holding cash or funds in an ISA or a money market account gives you quick access — useful for emergencies or unexpected opportunities. At the other end of the spectrum, you’ve got assets like property, private equity, and venture capital (EIS/SEIS included), which typically require you to lock your money away for multiple years.
Neither end of that spectrum is right or wrong, they just serve different purposes. The key is having a balance. If everything you own is liquid, you might miss out on some of the best high-return investments. But if everything’s tied up, you could end up in a bind if you need cash unexpectedly.
That’s where blending becomes important. Having part of your portfolio focused on accessible, short-term options gives you breathing room. It means you're not forced to sell a long-term investment at the wrong time just to raise cash. And on the flip side, allocating capital to longer-term, less liquid investments — like those accessed through EIS or SEIS — allows you to pursue higher returns and take advantage of the significant tax reliefs that come with patient capital.
In short, thinking about liquidity is just as important as thinking about risk or returns. A well-diversified portfolio isn’t just spread across asset types — it’s also layered in terms of time horizons and access. And getting that balance right can make a real difference over the long term.
Continually build on your portfolio
Whilst you may at present have an adequately diversified portfolio that includes an optimal range of asset classes spread across a host of industries and potentially even international economies, the key to retaining an effective portfolio diversification strategy is to continue building on it.
Using long-term portfolio development techniques such as dollar-cost averaging (DCA), although not preferable for every investor, can allow investors to systematically invest equal amounts spaced over regular intervals over a prolonged period of time, and is just one strategy commonly used for future portfolio planning.
Effectively pre-empted allocation strategies like DCA suggest investors to smooth out the peaks and troughs associated with market volatility and avoid making the potential mistake of making one considerable investment that is poorly timed, rather aiming to give the investor more time to identify the optimal stage to invest.
Not only does continually building on your portfolio give you the opportunity to notice peak investment periods, but it allows the investor to identify shifts and trends from asset class to asset class. As illustrated previously on MFS’ ‘20 Years of the Best and Worst’ report, what is an ideally risk-balanced, growth-focused portfolio now, may not be in five years' time.
Regardless of experience, background or industry, decades of research and case studies suggest developing an effective portfolio diversification strategy that follows specific processes and makes use of established alternative investments can have decisive impacts on an investor’s performance, flexibility and durability throughout changing market backdrops.
And where it’s undeniable that investment portfolios based around a single asset — whether it be stock, crypto or property -— have and will continue to witness success when implemented precisely, to maximise the potential of future returns, minimise the damage unforeseen circumstances can incur and discover an optimal balance of growth and impact within your future investment portfolio, diversification is key.
