Diversification Is No Fun

The Wall Street Journal had a story yesterday that highlights the dominance of U.S. stocks over the rest of the world in the past few years:


Since 2012 alone, the U.S. share of global stock market capitalization has risen from roughly 35% to just over 40% of the total.

I tweeted out the following this morning, which provides the obvious reason for this shift:


U.S. stocks have slaughtered international markets throughout this cycle. I’ve had plenty of questions from investors asking me why they should ever own foreign stocks when they see these types of returns. It’s a legitimate concern. We humans are an impatient group so it can be difficult to see valid reasons for diversification when presented with performance numbers like this.

I’m reminded of a Howard Marks quote that sums this up nicely when he said, “In the world of investing nothing is as dependable as cycles.”

I took a look back a 5 year trailing returns on three different Vanguard equity index funds — U.S., international and emerging markets — to show this cyclicality in practice:


The performance spreads in December of 2001 were fairly similar to the ones we see today. Those numbers had completely reversed by 2006 and stayed that way through 2010 until coming full circle today.

Despite these cyclical differences if you looked at the 15 year returns of these funds since 2001 they weren’t all that different:

  • United States +7.8%
  • International +6.3%
  • Emerging Markets +7.3%

It’s easy to say that you’ll be happy only investing in U.S. stocks today because it feels much better when you’re invested in the best performer as opposed to the worst performer. It may not be all that easy when the cycle inevitably turns. And it will turn at some point. The U.S. doesn’t have a monopoly on stock market returns, profit growth, dividend payments, innovation or good ideas.

The problem for many investors is that they only want to be invested in the best performer so they end up chasing what’s worked well lately. Seeing these kinds of relative performance spreads invites the hindsight bias to allow us to assume we knew exactly what was going to happen.

The hardest part about cycles is that there’s no rhyme or reason to their length or magnitude. It’s certainly possible that U.S. stocks could continue their strong relative performance for a number of years. Or it could end tomorrow. No one really knows. Investors are a fickle bunch.

There are all sorts of intelligent-sounding reasons to avoid foreign stocks at the moment — stagnant economic growth, poor demographics, the European Union seems like a mess, political instability, etc. The thing to remember here is that the stock market has obviously already picked up on these things; that’s why market performance has been so poor. Things could definitely get worse, but it doesn’t have to get better for markets to recover; things just have to get less worse.

Bill Bernstein provides a nice summary on all of this:

First and foremost, don’t even think about trying to extrapolate macroeconomic, demographic, and political events into an investment strategy. Say to yourself every day, “I cannot predict the future, therefore I diversify.”

Diversification is not fun, but intelligent investing shouldn’t be about having fun.

Further Reading:
Global Diversification: Accepting Good Enough to Avoid Terrible


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  • Karl Steiner

    Nice observations. If you invest regularly, like in a 401K, I think it also helps to think about each investment in under-performing assets as buying at a discount. I have been buying developed and emerging market stocks for quite awhile now as part of a broad diversification plan. I keep telling myself that someday (not sure when) the trend will reverse and all my “cheap” foreign stocks will suddenly sky rocket like a brilliant idea. I also tell myself: Who knows. There is no predicting the future.

    • Ben

      One of the biggest advantages of the DCA approach – continuously buying more shares at lower prices. Well said

  • Gregory

    And the another part of this phenomenon is the home country bias. US investor asks why should I invest in an uderperforming strange market?

    • Ben

      yes, feels better to invest in what you know.

      • Gregory

        Maybe this is one more reason that factors will work in the future too. Simple geographic diversification is painful for a lot of people so the “obscure” factors too.

  • Good reminder Ben to stay diversified. I hold individual dividend paying stocks and even there, I see the trend of US listed stocks have delivered better returns than those in UK, Ireland, Brazil and China. That’s not sufficient reason to sell them as the international names I hold are strong in those countries. This trend might indeed change in the future.

  • A challenge with diversification is that there is often something that isn’t doing well and it tends to attract all the attention. So even when diversification is doing what it is supposed to do, it doesn’t “feel” all that great.

    Nick de Peyster

  • “I cannot predict the future, therefore I diversify.” Great quote. Have had these same discussions with clients over the last few years. Diversification works over time but not every time.

    • Ben

      yep. that’s what makes it so difficult. asset allocation is a long game

  • Michael H Baker,CFP®

    Thank you Ben. I have just started reading your blog….after having read your book a while back..and I’m kicking myself for missing out on all of your great content.

    • Ben

      Thanks for reading.

  • peter t.

    what are your thought on hedgefunds from a diversification standpoint? Should we continue to rebalance to hedgefunds, given the disappointing long term results?

  • Thanks for the sanity check Ben. It is comforting to see the research & data that supports taking the long view.

    • Ben

      I think a sanity check is a good way to put it. This is as much for me as it is for anyone else

  • UofODuck

    Easy to say, but hard for most people to do. Intellectually, investors may understand that not every part of their portfolios will be positive at all times, but this understanding fades rapidly when they open their latest statement and – gasp!- they see some negative numbers. Then the focus is solely on that portion of their portfolio and not on their overall performance v. their long term objectives. Again, this reinforces my belief that we are less in the business to tell people what to do and more to convince them what not to do!

    • Ben

      Yup. I do think it can help to keep things in terms of the overall portfolio and ignore the individual holdings, but as you said, easier said than done.

  • MG

    Regarding “15 year returns of these funds since 2001 they weren’t all that different,” using your % gain figures, if one started with $100,000 15 years ago, the difference would be about $58,000 in favor of the United States investment:

    United States +7.8% compounded for 15 years = $308,518.64

    International +6.3% compounded for 15 years= $250,033.94

    I think most investors would consider investing strictly in the United States over this long period to have significantly outperformed international investing.

    • Ben

      Of course, but this situation would have been reversed in 2006 or 2010, for example. So it goes…

  • Flying Robot

    10 year forward US returns, which seem somewhat predictable in total, are estimated to be pretty low right now. I’m depending on EM and Int’l funds to start pulling their weight. Still, I live in the US, so I think it’s ok to overweight US Stocks. It is sorely tempting to try to act tactically and over-weight Int’l equities now, but I also rely on Bernstein’s quote for wisdom – there’s a reason I’m invested mostly in the US. However, my play money is 70% International equity.

  • Carlos J Jimenez

    Considering you spoke on the dimension of diversification across markets, I would like to add that I feel less “fun ” in diversification across strategies, but is necessary to avoid terrible.

    • Ben

      yup, give up home runs and strikes out for doubles and singles


    Funny no one ever mentions that the good performance of EM and Euro equities was mainly in dollar terms. Because the dollar lost a lot of value since 2000. And speculating on currencies is not a good idea. Though Warren Buffett did it and did well.

  • Neal Bobba

    The major intellectual/mathematical concern with diversification I have stems from the observation that asset classes which are relatively uncorrelated over longer periods of time can in fact be very correlated during briefer periods when prices in the “market” drop significantly. This is a bit troubling to me if the latter circumstance is supposedly when diversification provides the most benefit to investors. Can you please share your perspective on this?

    • Ben

      Diversification is a long game so that means you also have to have assets that will allow you to make it through bear markets when correlations go to 1. This is why you own bonds or hold cash because stocks tend to drop together.

      • Neal Bobba

        Fair enough. Some investment vehicles (e.g. insurance products) are principal-guaranteed, so it seems like they could be another way to prepare for bear markets.

        • Uptick1028

          Yes, but be prepared to pay big expenses either through fees or caps on performance in insurance products. There is no free lunch, over the long term you will generate lower returns via insurance products as opposed to investing in a diversified portfolio of low cost funds.

          • Neal Bobba

            Totally agree, however I mentioned insurance products in the context of what to do with “defensive” money (i.e. cash you do not want to put into riskier asset classes like equities, no matter how diversified the holdings).