What is the primary goal of diversification in investment strategy?

The primary goal of diversification in an investment strategy is to reduce risk across various assets. By spreading investments across a wide range of assets, an investor can minimize the impact of any single asset's poor performance on the overall portfolio. Diversification aims to create a balance; when one asset declines in value, other assets may either retain their value or appreciate, thereby mitigating potential losses. This strategy is based on the idea that not all assets move in the same direction at the same time.

Investors employ diversification to achieve a more stable return profile, as it helps to smooth out the volatility typically associated with individual investments. For instance, a portfolio composed of stocks, bonds, and other asset classes is less likely to experience dramatic swings compared to a portfolio concentrated in a single asset or industry. This technique is foundational to modern portfolio theory, which posits that a diversified portfolio can achieve an optimal risk-return balance.

The other options do not align with the principle of diversification. Focusing on maximizing returns on a single asset or concentrating investments in high-risk areas would increase exposure to potential losses and volatility. Likewise, focusing on short-term investments runs counter to the purpose of diversification, which is better suited for a long-term investment horizon to stabilize returns over time.