Diversification: why?

So a big thing pushed by most financial advice type people is diversify. By that they mean distribute your money in many different markets and sectors, don't put all your eggs in one basket so to speak.

But why?

The standard answer is to hedge against risk. It's like roulette, you can drop all your chips on one number, or tossing a few chips on various numbers. Of course the analogy is a bit backwards, to make it work better you'd lose if your number comes up. So instead of everything blowing up, only part of your assets lost, while the rest sat ok and made out.

Now this analogy reveals something commonly not considered. Betting one of each on something is not a good idea in roulette, because the house always wins. So diversifying is based on the idea that the house will always lose, or in more real terms, that the market overall will grow. Now to be fair, we have most of human history to back up this point, but do recall the old fund disclaimer, "past returns are not guarantees of the future". Of course if you look at the length of data, I might as well be claiming that the sun might not rise tomorrow. While technically true (it could explode or something), the pattern has happened so consistently we anticipate it being there. Think about it you've likely made plans for events in the future largely based off how your life has been going up to that point (e.g. likely to be in the same city, have the same daily commitments, be with your friends).

Now I'm not trying to build up to a 'everything you know is wrong' moment. Actually I quite believe the underlying premise as well, that the market will continue to expand. It's just important to know what your assumptions are for your investment strategy. So if we do see a trend start to emerge, like say, a marked trend away from consumerism, the world's governments having a radical shift towards environmentalism/sustainability, or a maxing out of our population and each person's work potential, then you'll know to start considering a shift in strategy.

Also a diversification strategy assumes you are stupid. Well not stupid so much as ignorant. And it's generally true too. Regarding the market and economics (micro, macro, global), most people really know squat, and some know just enough to get them in trouble. So unless investing is your day job, or a hobby you're really enthusiastic about, your largely ignorant of what's going on in the economic world, or only know about the overall picture, and not to a small enough granularity to start betting. Back to the casino example, take the market as the biggest poker game ever. There are professionals out there whose job it is to play the game, if your just a casual player, you're not likely to come out ahead. So throw a little everywhere and just follow the overall trend, rather than trying to out-compete people with far more resources than you.

Finally a cute diversification strategy that might not seem so at first glance:
Buy 3-5 large blue chip stocks.
Why? Take GE, in one company you have financial, healthcare, electricity utility, aviation, and more. Plus it's not just tied to the US market because it's a multinational corporation. Pick a few spread out and you can cover most of the market and world, plus large companies like these are usually dividend paying, so you get that strategy as a bonus too.