Fat ties, bellbottoms and pocket squares go in and out of style over the years. Clean-shaven could be the look for a time, followed by beards of all different shapes and sizes. Short skirts, long dresses, mini skirts, pants will fill the stores and take their turn as the style of the moment. The constant: our appearance goes in and out of style.
Does this apply to investing? Has diversification gone out of style? Why? The lack of volatility in the equity market has been unprecedented. There have been over 395 straight sessions without the S&P 500 falling by more than 5%. (Source: Marketwatch). This is the longest stretch in stock market history! I’m being asked all the time “is this time different? “ In fact, if you have a diversified portfolio you’re probably experiencing the following:
- You have asset classes that underperform the S&P 500.
- You have investments that you might feel are “losers“.
- You might feel like you’re missing out on opportunities.
Diversification can feel uncomfortable when the market goes straight up.
What must be considered when constructing a properly diversified portfolio? Your personal risk tolerance, goals, time horizon and cash flow needs
The benefits of diversification include, but are not limited to:
- Lower drawdown as a stock market recedes.
- By having lower drawdown, the recovery period will generally be much shorter.
- Lower probability of reacting emotionally and getting “scared “out of the market at the wrong time.
As the Nobel laureate, Harry Markowitz said “to reduce risk it is necessary to avoid a portfolio whose securities are all highly correlated with each other“. Meaning, if assets in a portfolio are all going up at the same time, they may also be likely to go down at the same time. As we approach the ninth year of a bull market, many people’s equity exposure has increased to levels more aggressive than their risk profile.
As great as things seem right now, it has been our experience that nothing goes up forever. Today is a good time to review your portfolio and make sure it is in line with your goals. As fashion icon Ralph Lauren said: “Style is very personal. It has nothing to do with fashion. Fashion is over quickly. Style is forever.” Stocks, like fashion can change direction at any time. However, diversification, like lifestyle is forever and never goes out of style.