Let’s take a look at portfolio strategy as a corporate-level strategy. Corporate-level strategy is the overall organizational strategy that addresses the question, “What business or businesses are we in or should we be in?”
One of the standard strategies for stock market investors is diversification, or owning stocks in a variety of companies in different industries. The purpose of this strategy is to reduce risk in the overall stock portfolio (the entire collection of stocks). The basic idea is simple: if you invest in ten companies in ten different industries, you won’t lose your entire investment if one company performs poorly.
Portfolio strategy is a corporate-level strategy that minimizes risk by diversifying investment among various businesses or lines. Just as a diversification strategy guides an investor who invests in a variety of stocks, portfolio strategy guides the strategic decisions of corporations that compete in a variety of businesses. Think of a corporation as a stool and its businesses as the legs of the stool. The more legs or businesses added to the stool, the less likely it is to tip over.
The best-known portfolio strategy for guiding investment in a corporation’s businesses is the Boston Consulting Group (BCG) matrix. The BCG matrix is a portfolio strategy that managers use to categorize their corporation’s businesses by growth rate and relative market share, which helps them decide how to invest corporate funds.
In sum, in contrast to a single, undiversified business or unrelated diversification, related diversification reduces risk because the different businesses can work as a team, relying on each other for needed experience, expertise, and support.
