The financial services industry counsels individual investors to create and maintain a diversified portfolio. This is a sound idea, of course, being based upon the old adage to "Don't put all of your eggs into one basket!"

 

Industry professionals use models to balance a client's assets against their risk profile to create a portfolio that in most cases contains a variety of stock sectors, bonds, and cash. However, if you are invested solely in stocks, bonds, and cash, recent trends toward more correlated markets can make you feel like you are working with just One Basket again.

 

During rising markets, traditional diversification techniques tend to work well, since all ships rise with the tide. Unfortunately, there are often periods (such as this past decade), where long-term gains battle with market corrections to bring the investor back to square one.

 

In recent years, investors have tried to increase diversification by adding foreign stocks and small-cap assets to provide a cushion during market downturns. However, with the rapid globalization of the world economy, the 5-year rolling correlation between foreign stocks, U.S. small-caps, and the S&P 500 is now over 90%,[1] increasing the probability that they will rise and fall in tandem to bullish or bearish market currents.

 

Fixed investments like long-term Treasuries and top-rated corporate bonds do provide strong diversity with the S&P 500, but their yields tend to be unexciting for most investors (around 4%),[2] taking much of the fun out of their lack of correlation with stock indices.

 

Highly correlated markets may spell doom for traditional portfolio diversification. Model Portfolio theory is a strategy for investors building a sturdy foundation for the future, but only if additional asset classes are available to the investor. At Select Wealth Management, our goal is to help investors add asset classes such as private equity, real assets, and absolute return to truly diversify their investments for the long term. With the evolution of these product types, we can now help investors with $200,000 or more to diversify with investment categories that were once the only available to the very rich.

 

As David Swensen, Director of the Yale Endowment Fund, stated in an interview with Smart Money in 2007, "Diversification should be the "bedrock" of every investor's portfolio. Most investors, institutional and individual, are far less diversified than they should be," he says. "They're way overcommitted to U.S. stocks and marketable securities."

Helping investors to add assets, such as private equity and absolute return, effectively to their portfolios is an art as well as a science. At Select Wealth, we do this every day. Most large broker dealers still universally recommend a blend of equities, bonds, and cash unless a client exceeds a threshold of $5 to 10 million dollars in liquid assets.

 

We find clients can achieve true diversification with $200,000 or more to invest using publicly traded investments. With $500,000 or more to invest, we can offer privately traded products that offer additional diversification. Either way, the benefit of having more diversity of interwoven assets is the real secret weapon of the independent investor.[3]

[1] Smart Money, 2007.

[2] Id.

[3] Id.