Diversification is an action to divide the portfolio we have into several assets. So, what are the functions of diversification in narrative trading?
#1 We Don't Know Which One Will Perform.
When we do narrative trading and focus on a sector: for example the AI sector. We don't know which coin will increase the most. That's why diversifying or buying many coins can be a strategy to gain exposure to coins that have the potential to increase high.
#2 Limiting Risk.
When doing cap diversification or dividing purchases into one narrative by buying big caps, medium caps, and low caps, then we will slightly reduce the risk that we have on low cap exposure which (for example) has a very high risk. By having big caps in our portfolio, the potential risk is slightly reduced.
#3 Protect Yourself From Potential Volatility.
Low caps often have high volatility, in one week it may rise 400%, but in one day it can fall 40%. That is why by including big caps and medium caps in our portfolio we also avoid the downside risk and high volatility.
#4 Leverage Related Narratives.
Some narratives tend to move together because of similarities and connections between narratives. For example, AI and DEPIN have similar functions so they tend to pump at the same time. There are also RWA and L-1 which often move together. With narrative diversification or buying 2 narratives at the same time, we can get the potential from the pump of each existing narrative.