The Commodization of Diversification

I came across the piece on dshort.com, “Diversification Works Until it Doesn’t”, which shows how diversifcation can sometimes be a failed strategy during an “epic” downturn.  He has a great graphic which I have inserted below:

I think diversifaction as a strategy was “overbought” in 2007.   Think about it.  Wall Street Brokers were all become “Wealth Managers”.  Instead of selling tech stocks, they were selling “Comprehensive Asset Allocations”.  At the same time you could buy an ETF which was the diversification equivalent of “crack” – a quick hit of diversification.   While I believe it was done with good intention, diversifcation almost became an asset class itself because it was commoditized.  Once a strategy becomes a tradable commodity, it too can be overbought and oversold, and unfortunately it so happens that when diversification is overbought EVERY asset class is thus overvalued and , well you see what happens.

Diversification itself has its advantages, and is a great strategy to save an investor from himself, but when it becomes a commodity and everyone’s using it, sometimes it becomes too expensive of a “product” to buy.

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  1. Kristian LT Blom

    The ignorance here is astounding.

    It obviously not “what” one invests in but “how much” of each investment relative to the other based on a logical metric like volatility etc!

    Diversification is the start. Not the bloody end!

    “Diversification” works and will continue to work for underlying economic reasons. Last time it “did not work” was 1974…

    • Kristian LT Blom

      My reaction is not to this particular post only. This argument is made all over the place currently. “Driving in the rear view mirror” is all that this behavior amounts to.

      Have a strategy and be consistent or you are introducing an element of randomness of your own making!

      Quickly: if you have a 60/40 portfolio of stocks and bonds like so many people ha been sold, you have achieved very little because 90%+ of the Volatility comes from the Stocks.

      • zerobeta

        I’m not arguing the merits of diversification, but isn’t arguing that diversification works because the last time it “didn’t work” was 1974 also “driving in the rear view mirror”?

        Diversification is a good strategy because it is a “long-term” strategy and most people when it comes to money get caught up in short term phenomena. Therefore it is a reward for prudence.

        The fact is when you commoditize diversification you put many people into the same EXACT diversified portfolio and it loses some of its benefits.

        Also, it leaves diversification very susceptible to the phenomena of demographics. If all the baby boomers are trying to liquidate their “diversified” portfolio at the same time, and there aren’t enough people to buy it – then it doesn’t matter how well it worked as the baby boomers were subsidizing the past “diversifiers” the liquidity will not be there.

  2. zerobeta

    Thanks for the comment. Never said it doesn’t work, just said that it was overvalued.

    Also if you please elaborate on the importance of the use of the “logical metric” of relative volatility in diversification?

    • Kristian LT Blom

      My point is that in 1974 the same thing took place and the phenomena of demographics was not a factor nor was diversification commoditized.

      Over and out best of luck with everything.

  3. Bill

    Just wondering: What was the ETF?

  1. 1 Diversification Is Overrated | The Long And Short Of It ...

    […] light of that, it was interesting to read an article today on Zero Beta about the Commodization of Diversification. The author talks about how diversification works great during normal markets, showing a graph from […]




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