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The Taming of the Diversified Portfolio

By Advisor Perspectives
Wealth Management, Capital Markets, Financial Services

The concept we discuss here goes back to before the advent of the written word, living in parables echoed in religious and secular texts alike. The precise wording has evolved, but the message has not changed materially over time. Cervantes put it on paper more than 400 years ago through the lips of Sancho Panza, and we still use a translated version of it to teach our kids: “It is the part of a wise man to keep himself to-day for to-morrow, and not to venture all his eggs in one basket.” To be more succinct, diversify. Investors have leaned on this idea for a long time, and diversification is often heralded as the “only free lunch in investing.”

Translated into simple terms, the addition of less correlated assets to a portfolio reduces the portfolio’s risk while potentially improving expected returns. But, diversification has fallen short in recent years, leading to declarations that it is an antiquated concept with little applicability in the modern world. This year the S&P 500 Index finished the first three quarters up more than 10%. A portfolio with a 60% allocation to global equities and 40% to investment grade bonds returned less than 2% over the same period. The wide difference in performance between large cap U.S. equities and a globally diversified portfolio has come after a series of equally disappointing years. Is it time to declare diversification dead?

Read more at Advisor Perspectives.

Photo: Public Domain

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