Simplify Diversification With Diversified Companies
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Stock diversification is one of the most widely implemented strategies. When used correctly, it minimizes risks because one’s wealth is spread over a multitude of businesses in different industries. As a result, the risk of sinking the portfolio with one bad investment is reduced. However, this strategy, i.e. buying ten or more different stocks, has a flaw. It is difficult to track a large number of stocks. Diligent investors keep track of developments and listen to earnings calls. As a result, having a large number of different stocks can significantly increase the amount of time it takes to keep updated.
To help alleviate this problem, investors who like diversification can consolidate their investments by buying diversified companies. For example, instead of investing in a technology company, an energy company, a finance company, a manufacturing company, and so forth, investors can reduce their number of investments by buying companies that own businesses that operate in multiple industries. The benefit here is that investors own a fewer number of stocks and maintain industry diversification. In other words, the amount of time needed to keep updated on companies is reduced.
Additionally, since investors focus more of their attention on a fewer number of stocks, they are able to dig deeper. Moreover, the large number of industries a diversified company operates in provides protection against sudden developments that could cause a company focused on a single industry to lose half of its value. While a diversified company is still one company, it operates multiple businesses in multiple industries. Thus, a diversified company is protected in a similar fashion that a diversified portfolio is protected. As a result, investing in diversified companies matches the advantages of stock diversification.
Furthermore, it is actually not difficult to find well diversified companies. Most companies have some degree of diversification, but to get well diversified companies investors only need to turn to some of the most well known companies in the world. General Electric (NYSE: GE), 3M (NYSE: MMM), Honeywell International (NYSE: HON), Dow Chemical (NYSE: DOW), and Siemens AG (NYSE: SI) are all well diversified companies. The following table lists the business segments of each company.
|GE||3M||Honeywell International||Dow Chemical||Siemens AG|
Energy Infrastructure, Aviation, Healthcare, Transportation, Home & Business Solutions, GE Capital
|Industrial & Transportation, Health Care, Consumer and Office, Safety, Security and Protection Services, Display and Graphics, Electro and Communications||Aerospace, Automation and Control Solutions, Performance Materials and Technologies, Transportation Systems||Electronic and Functional Materials, Coatings and Infrastructure Solutions, Agricultural Sciences, Performance Materials, Performance Plastics, Feedstocks and Energy||Energy, Healthcare, Industry, Infrastructure & Cities, Siemens Financial Services|
As shown, all five companies operate multiple business segments. In addition, these business segments serve very broad markets. For example, GE’s Energy Infrastructure segment provides power plant products, generators, renewable energy solutions (i.e. wind and solar), water purification equipment, equipment for the offshore and onshore oil and gas industry, pipeline integrity solutions, and many others. Similarly, the business segments of 3M, Honeywell, Dow Chemical, and Siemens also serve a broad range of industries.
In addition, these companies have global operations. In 2011, 3M’s sales in the US, Asia Pacific, Europe, Middle East, and Africa (EMEA), and Latin America/Canada were 33.9%, 30.7%, 23.9%, and 11.5% of the company’s total sales, respectively. Similarly, Honeywell states in its 2011 Annual Report, “Foreign manufactured products and services, mainly in Europe and Asia, were 43, 42 and 40 percent of our total sales in 2011, 2010 and 2009, respectively.” In 2011, Dow Chemical had global sales in EMEA, North America, Asia Pacific, and Latin America of 35%, 35%, 18%, and 12%, respectively. Lastly, in 2011, emerging markets accounted for one third of Siemens’ total revenue and revenue from outside the US accounted for 53% of GE’s total revenue.
The following table summarizes the companies.
|Market Cap (Billions $)||PE||Dividend Yield (%)|
As shown, these companies all have large market caps with the exception of GE, which has a mega market cap. Larger companies have many advantages, such as economies of scale and being able to expand into other markets, which is important for diversified companies. Investors looking for a diversified approach can pick a combination of these companies. For example, a combination of GE, Dow Chemical, and Siemens would provide exposure to the healthcare, financial, chemical, aviation, infrastructure, energy, technology, and other industries. Investors can buy more focused companies to fill in the gaps. While the three companies are more complex and more difficult to analyze than more focused companies, the information is consolidated.
In conclusion, diversification is a good strategy because it minimizes risks. However, diversification can present other types of risks because it is difficult to track a large number of companies. To alleviate this problem, investors can invest in large well diversified companies. Consequently, investors remain invested in multiple businesses in different industries that are owned by a smaller number of parent companies. This keeps the benefits of diversification and simplifies keeping track of the investments. For investors interested in diversifying with a few number of stocks, GE, 3M, Honeywell, Dow Chemical, and Siemens AG are good starting points.
Know What You Own
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