Tutor profile: Kwame J.
Subject: Personal Finance
Why is diversification extremely important for investment portfolios?
As the old adage goes, never put all your eggs in one basket (because if anything happens to that basket, not just one, but all your eggs will be broken). When investing, it is important to spread your risk. If, for example, you invest only in U.S. stocks, and we undergo a serious recession like the one in 2009, you are likely to suffer major losses that may completely turn you off of equity investments for a long period. If your portfolio is well diversified, your U.S. equities allocation falls due to the recession, other assets should rise, and reduce the losses you suffer from your U,S equities. You will sleep better at night, believe you me.
Why are bond prices inversely related to market interest rates?
The relationship between bond prices and market interest rates is typically inverse. That is, as market rates increase, bond prices fall, and as market rates fall, bond prices rise. The reason for this inverse relationship is - when market rates go up, newly issued bonds are issued with coupons that are higher than the older bonds. So, prices for the older bonds with lower coupons must fall, in order for these bonds to attract buyers. The opposite is true when market rates fall.
What is the Law of Demand?
The Law of Demand states that as demand for a good falls, the quantity demanded for that good increases, and the opposite holds true for increases in the price of a good. This relationship between price and quantity demanded is best illustrated with a downward sloping demand curve.
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