Diversification: the cornestone of sound investing

22 December 2016 by Jean-Philippe Bernard
Pie chart

A colleague recently asked me what the next big stock market opportunity would be. When I thought about it, I realized I had no idea!

And I’m not the only one. According to the 2015 S&P Indices Versus Active Funds -SPIVA scorecard, there has been a gap in the performances of actively managed [1] and passively managed [2] funds for several years. 

The study shows that actively managed funds barely outperform passively managed or index funds.

This is not surprising, given how risky it can be to forecast a potential recovery (or collapse) for a particular asset class. The timing of this strategy is the key to success but it is very difficult to accurately determine.

However, given the ever-present uncertainty of the financial markets, portfolio diversification is vital to investing success.

The three keys to diversification

First, your portfolio should be diversified based on certain parameters, such as your age and risk tolerance.

Second, depending on the economic and financial climate, it may be wise to adjust your strategy to benefit from certain trends. For example, the current climate suggests that bonds should weather future headwinds as their rates are so low. You might therefore want to deviate slightly from your target asset mix by giving this asset class a little less weighting.

Lastly, as the financial markets are constantly in flux, certain assets may deviate from their target over time. It is therefore important to rebalance your portfolio in order to align it with the previously established target. This type of investing discipline is critical for reaching your objectives. Often, only an investment advisor will be able to help you in this process, so don’t hesitate to consult one.

Jean Philippe Bernard, Investment Advisor, National Bank Financial

[1] Active management is often used by investors who reject the efficient-market hypothesis and believe that they can obtain better returns by selecting assets themselves by using analysis tools.

[2] Passive management (or index funds) is preferred by investors who believe in the efficient-market hypothesis. Using an often partially automated method, their portfolios mimic market indexes.


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