Is portfolio diversification a myth?

In the traditional sense, yes. Investors today must look beyond the traditional areas and asset mixes for “real” diversification.

Yan Barcelo 21 February, 2019 | 6:00PM

Portfolio diversification is a fundamental pillar of modern financial management theory, but that theory dates from another era and has lost its relevance for today’s investors. Diversification, as we still understand it today, is a “myth”, and we need to revisit it, asserts a recent T. Rowe Price study.

In a majority of instances, diversity works the least when you need it the most says the T. Rowe Price report titled When Diversity Fails,and written by Sébastien Page, head of Global Multi-Asset and Robert Panariello, portfolio manager and quantitative analyst.

In reality, the situation is even more confusing based on monthly data collected between 1970 and 2017. Correlation strengthens in times of market stress and weakens in times of market elation; that’s the exact opposite of what an investor wants. Referring to the 2008 financial crisis, the authors write that “not only did correlations increase on the downside, but they also significantly decreased on the upside. This asymmetry is the opposite of what investors want. Indeed, who wants diversification on the upside?”

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About Author

Yan Barcelo  is a veteran financial and economic journalist with more than 30 years of experience, writing for many publications in Toronto and in Montreal, including CPA MagazineLes Affaires and Commerce.

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