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You find it mentioned in most texts about investing. Every financial adviser will suggest it and many professional fund managers will claim to be following a portfolio diversification strategy.

Yet planned portfolio diversification is a fundamental of investing often neglected by individual investors. This is surprising given the portfolio and risk-management benefits it offers.

According to the theorists, the idea of planned diversification is to divide your money between different investments in such a way that if one or more performs badly it wont be a total disaster for the portfolio.

One stock can spell disaster

While many investors consider a disaster in share investing as being a general market retreat (i.e. big correction) a more frequent negative for individuals will come from overexposure to one or two shares in their portfolio which are virtually wiped out.

In most years within the sharemarket there are shares that perform very well and others that suffer major reversals.

Fund manager James Purvis of Proactive Portfolios says there are various ways of approaching diversification.

Core and satellite

For investors who have pursued a haphazard approach based on market tips, an alternative strategy, says Purvis, is described as a core and satellite approach.

For someone wishing to start with a clean slate, it involves committing about 70 to 80per cent of a share portfolio to either an index or an exchange-traded fund that delivers a market performance.

There are more and more index ETFs. promoted by organisations such as Vanguard, iShares, Russell Investments, BetaShares, Australian Index Investments, State Street Global Advisors and BlackRock. The balance of the portfolio is then invested in a manageable selection of more specialised investments. This could be direct shares or specialist share funds like an international fund. It could also be a specialist ETF.

Economical ETFs

One thing about ETFs, says Robin Bowerman of Vanguard, is that they are economical. Vanguards Australian share index fund has an annual management expense ratio of just 0.15 per cent. Its American market ETF has an annual fee of just 0.07 per cent.

The basic core and satellite approach deals with the risk of individual investments failing by having most of the share performance come from the core holding. Other potential core investments can be listed investment companies like Argo or Australian Foundation Investment Company. Restricting individual investments to five or six that are treated as satellite investments that are split between 20 per cent of a share portfolio means the worst-case scenario of one failing completely is a 4 per cent loss.

Growing confidence

Ron Bewley of Woodhall Investment Research says what core and satellite diversification shows is it does not take many investments to give you a diversified portfolio. Having just a few satellite investments can allow a novice investor to get to know individual share investments at their leisure.

Then as their knowledge grows and they are more confident, they can dilute their core portfolio and buy more individual investments.

Following a core and satellite approach is a powerful way of managing share investing risks. says Bewley. As individual investments, shares are most volatile, with an index holding the least volatile way to be a share investor.