The new diversification:
Open your eyes to alternatives


The “New Diversification” is a phrase coined by BlackRock to acknowledge the fact that traditional definitions of diversification have their shortcomings—a hard lesson borne out in the 2008 credit crisis. Now, many years later, this evolved form of diversification remains as important as ever. Dr. Christopher Geczy offers his views on why widening your sources of risk and return is always a prudent approach—in good times and in bad.

Investors cannot necessarily rely on what is traditionally thought of as diversification to meet their long-term goals.

Highlights:

Lessons from the financial crisis

  • Modern Portfolio Theory did not fail—if anything, portfolio construction did.
  • Many investors did not have exposure to a sufficient range of investments during the 2008 crisis, resulting in limited protection from downside risk. Many very likely remain under diversified today.

Looking ahead

  • Investors need to understand where the risks in their portfolios are coming from, thinking in terms of risk diversification and getting exposure to as many different and non-correlated types of risk that they can.
  • Not all risks are the same. Investors need to work with their financial professionals to choose and blend the risks that make sense for their unique circumstances.

A role for alternatives

  • Alternatives provide access to sophisticated investment strategies and types of investments that cross asset classes, broaden diversification opportunities and by their very nature, tend to have lower correlation to other investments.
  • Adding more diversifiers (including alternatives), cannot totally protect a portfolio from negative returns or completely insulate a portfolio from a financial crisis. Nothing can do that perfectly or completely. However, alternative investments generally lost less on the downside during the credit crisis, and hence had an easier road to recovery.

DOWNLOAD THE DISCUSSION

Dr. Christopher Geczy
Academic Director of the Wharton Wealth Management Initiative & Adjunct Associate Professor of Finance at The Wharton School