I have come across many individuals who have recently suffered painful, major losses, some of more than 80%, as a result of over-concentration in 'trendy' investment areas that had overshot their fair value. This is a familiar theme in the lore of investing - investors jumping on a bandwagon regardless of the fact that it was about to fall off a cliff! The prospects always seem glorious: whereas the Internet, technology, and NASDAQ was going to take over the world just recently, in the late 80's it was Japan that was supposedly unstoppable. Ten years before that, gold was supposedly the only choice one had to make.

To preserve capital, we need the exact opposite approach: diversify into several asset classes. Someone once said that 'diversification is the only free lunch on Wall Street', and it's true. Any asset can lose value in inflation-adjusted terms at some point in the economic cycle, and that includes cash. So it is important to combine equities, bonds, cash, inflation-proofed bonds, and other assets to ensure that all potential economic circumstances are protected against. Numerous studies have shown that the asset allocation decision has a greater effect on investment performance than anything else. Furthermore, it is useful to diversify within an asset class. Seek a variety of different investments to spread out the risk.

It's a nasty fact of mathematics that a 50% loss requires a 100% gain to bring you back to your starting point. And that means years lost. Therefore, avoiding losses is exactly equivalent to increasing the length of time available to achieve investment returns.