Investors: If a Market Correction Is Coming, This 1 Move Will Make or Break Your Portfolio

The stock market has begun to tumble — especially the technology stocks associated with the artificial intelligence (AI) infrastructure build-out. In fact, the Nasdaq-100 index has already entered a correction, down over 11% from its highs.

Could the S&P 500 index follow suit? Market corrections are normal, and investors should expect them to occur on a regular basis. However, in order to mitigate the pain of market drawdowns, investors who buy individual stocks should utilize this one strategy.

That strategy is diversification.

Why diversification matters

Diversification is the practice of keeping your savings in different baskets so that if one idea falls apart, you are not going to lose everything.

Most portfolios should have a minimum of 20-30 stocks to benefit from diversification. The Motley Fool recommends 50. There is some nuance to this: An investor with just $1,000 in savings should not feel the need to put it into 50 stocks. Wait until you have more in the bank account to slowly build out this portfolio.

Someone with six figures or seven figures in savings could definitely spread their savings over 50 or so stocks in order to stay properly diversified. That way, if one of the stocks you own goes to zero, the rest can pick up the slack.

Fifty stocks for an individual investor is a good sweet spot. Much more, and the portfolio can feel too crowded and overwhelming to manage. Much less, and you are exposed to massive amounts of volatility, which you may or may not want to experience.

More than just buying 50 stocks

Of course, there is even more nuance to building a portfolio than there is in having 50 stocks. One needs to consider what sectors to spread their bets around. If 40 of the 50 stocks you own are centered in a risky sector like AI, you may have significantly less diversification than you think.

Or, there is the risk of having one or two positions be massive in your portfolio. If the majority of your portfolio was Nvidia and Micron Technology this year, it wouldn't matter how many other stocks you own; they would be too insignificant to replace the massive drawdowns from these two AI infrastructure stocks.

Investors can also consider diversifying into different stock sizes, factors, and geographies, which tend to have uncorrelated performance. Factors can be complicated, but the most popular are value stocks, which are the statistically cheapest stocks on the market. Match them with some AI technology stocks, and your portfolio is starting to diversify quite quickly.

How you can diversify your portfolio today to help mitigate market drawdowns

There are many ways one can diversify.

All you need to do is look at your own portfolio. If you have too much of your portfolio in one or two stocks, or in a single sector, now would be a great time to spread some of your eggs into different baskets. This could span different stock sectors, high-dividend payers, small-cap value stocks, new geographies, or even non-stock assets like bonds and real estate.

Owning bonds and real estate can be uncorrelated to short-term stock market performance. This is why the 60/40 portfolio exists: It allows you to rebalance the uncorrelated returns from bonds and buy stocks on the cheap during a market correction, another form of diversification outside of just owning many different stocks.

Everyone will have their own preferences. At the end of the day, if you don't put all your eggs in one basket and avoid using leverage by trading on margin, you will do just fine through a market correction.

Brett Schafer has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Micron Technology and Nvidia. The Motley Fool has a disclosure policy.