What does “diversification” mean in an investment portfolio?

In the context of an investment portfolio, diversification refers to the practice of spreading investments across various assets, such as stocks, bonds, real estate, and other financial instruments, to reduce the overall risk associated with the portfolio. The rationale behind diversification is that different assets often perform differently under varying market conditions. By holding a mix of assets that respond differently to economic changes, the negative performance of one investment can be offset by the positive performance of another, thereby minimizing the overall portfolio volatility. This strategic approach helps investors protect their capital and aims for more stable long-term returns, making it a fundamental principle of sound investment strategy.