Monday 22 August 2011

Diversification by Sector & Correlations

Interesting post on diversification by sector:



Looks like diversification among different sectors play a much smaller role in risk diversification during times of turmoil than I thought.



For example: Oil went from being correlated by ~0.5 to ~0.8 in the recent market crash. Telecoms went from 0.65 to 0.85, etc. The only asset class that successfully showed diversification was Gold, Dollar, and Long Bond.



So from a risk diversification standpoint, there's 2 ways to view it, intra-economy (companies producing goods and services) and non-economy factors (gold, commodities, dollar, bonds). Doing diversification solely by focusing on intra economy asset allocation (i.e. tech stocks vs financials) have a limit when a market crisis occurs.



Potential good longer term strategy is during times of high uncertainty, focus on non-economy diversification, and rely on intra-economy diversification during more normal constant growth times.









http://www.bespokeinvest.com/thinkbig/2011/8/17/tracking-asset-class-correlations.html



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