Final answer:
Financial advisors or tools help investors determine the composition of their investment portfolios through diversification. Mutual funds, collections of stocks or bonds from multiple companies, are a convenient way to achieve a diversified portfolio and are used by about 44% of U.S. households.
Step-by-step explanation:
Mutual Funds and Investment Diversification
Assists individuals in determining the optimal composition of their investment portfolios are often financial advisors or financial planning tools that help investors distribute their capital among different investments—such as stocks, bonds, and mutual funds—to manage risk and potential returns. A standard principle in finance is diversification, which involves spreading investments across a variety of assets to reduce the impact of any single investment's poor performance. This strategy follows the proverb, "Don't put all your eggs in one basket."
Importance of Diversification
Diversifying your portfolio is recommended because it tends to cancel out extreme gains and losses across various investments. For example, while one stock may decrease in value, another may increase, balancing out the overall performance of the portfolio. Mutual funds, which are collections of stocks or bonds from multiple companies, simplify the process of diversification. Investors can purchase mutual fund shares and receive returns based on the collective performance of the fund's assets.
Purchasing Mutual Funds
To acquire a diversified investment portfolio, one can purchase mutual funds. About 44% of U.S. households, according to the Investment Company Factbook in 2012, have invested in mutual funds, including many who have allocated their retirement savings or pension funds this way. Through mutual funds, investors gain access to a varied set of companies' stocks or bonds, which can result in a more stable investment over time.