According to scientific investment principles, the objective of diversification is to minimize or eliminate ‘unsystematic risk’ on investments, or those risks that are not related to the price volatility of the overall securities markets.
At the outset clear definitions are important. Unsystematic risk is the risk related to company-specific risk factors, such as new or increased competition, labor strikes, faulty management decisions, adverse technological changes, etc.
By holding a very broadly diversified portfolio containing the securities of numerous companies in different economic spheres, the risk in your portfolio can be significantly reduced. By holding the full market in your portfolio through broad-based index funds, unsystematic risk can be fully eliminated.
Unsystematic risk can be eliminated, because there is not a one-to-one correlation between the opportunities and risk factors that affect each particular firm.