Diversification, revisited


In a recent blog post that I wrote just a few weeks ago I drew attention to the fact that many investor predictions for 2014 played out in the market in unexpected ways, not least of which was another strong year for the S&P 500 Index. Large cap U.S. stocks turned in double-digit gains last year amid lackluster returns from many other asset classes.  This theme created a significant challenge for diversified portfolio managers, as small cap stock prices experienced a correction and non-U.S. markets were hurt by the strong dollar and posted losses for the year.  In my last post, I urged investors to look beyond the recent trends and keep a long-term perspective.

This recent article from InvestmentNews goes a step further.  It points out that investors that hold all or most of their assets in S&P 500-like investments are in fact taking on a great deal of risk by placing such a concentration in one asset class, even though they would have outperformed last year.  Many U.S. investors have come to view the S&P 500 as their performance benchmark due to its prevalence in the financial news regardless of the fact that their personal financial goals and risk tolerance may not line up with the risk/reward characteristics of the index.

We believe that advisors that take the time to thoroughly understand their clients’ financial picture and build an appropriate, disciplined investment strategy will be better positioned for long-term success.  As history has demonstrated many times, there will come a point in the market cycle when recent trends will reverse and investors will be grateful to have exposure to asset classes that had previously been weak.  That’s why diversification remains a cornerstone of portfolio risk control even in years when the most traditional asset classes do the best.