Benefits of diversification

Yesterday I posted on how market timing can materially reduce long-term investment returns. An excellent way to eliminate the negative impacts of emotionally-based market timing is through holding a portfolio that is diversified across several asset classes. Case in point: a recent study by Morningstar looked at the last 20 years ending March 31, 2020 and showed that a diversified (60% equity, 40% bond) portfolio achieved a total cumulative return of 176% compared with the stock market (S&P500) return of 155%. Diversification worked by resulting in lower portfolio drawdowns during market declines and allowing for faster capital recovery in market uptrends. Moreover, the study shows that in highly volatile markets like the last 20 years, diversification is important in both preserving capital and delivering higher absolute and risk-adjusted return.

Bob Toomey, CFA/CFP
VP, Research