Is This the Real Reason Diversification Stopped Working?

I started investing in 1986. And though there were many brokers to choose from they all told me the same thing. The big-box advisers told me it. The local guy told me it. And even the insurance sales people told me it.

You have to diversify.

And during the 1980’s and 1990’s it worked. Diversifying helped me. But then I started to notice something. Something no one noticed or was willing to talk about.

Let me explain.

Twenty four years ago in August 1995 an awkward kid from Wisconsin changed the investment world forever.

He wasn’t working on Wall Street. He was working in Silicon Valley. And he was a computer programmer.

And because of him, stock diversification stopped working.

The kid working in Mountain View, California invented a piece of software that did something other software couldn’t.

The software was able to connect and find different websites with ease. Before him “surfing the web” was less surfing and more rummaging.

In an IPO that was originally going out at $14, quickly changed to $28 and then on IPO day the stock closed at $58. Still today, his IPO stands as one of the biggest IPO first day performances ever..

Netscape was the company and the kid’s name was Marc Andreessen.

The world changes one mode of communication at a time.

Everytime the human race adopts a new mode of communication EVERYTHING changes including investing.

Ten communication mode changes…

  • 1500’s = The printing press
  • 1800’s = The telegraph
  • 1880’s = The telephone
  • 1930’s = The radio
  • 1930’s = Talking motion pictures
  • 1950’s = The television
  • 1970’s = The fax machine
  • 1990’s = The cell phone
  • 1995 = The Internet
  • 2007 = Web 2.0 (smartphones, fast download speeds, blogs, Twitter)

The Internet isolates as much as it connects…

When people isolate, they eliminate outside ideas… random and new points of view are eliminated.

There are three billion people on the internet looking at three million websites. That’s 1,000 people per website. If someone believes something to be true, whatever it is, they will find their people.

Isolation causes huge problems to portfolios if people’s money is NOT listening to what is actually happening.

Seven things I noticed when I researched modes of communication change:

  • The adoption rate is exponential faster with each new mode of communication.
  • Each new mode of communication flatten the world even more.
  • When the world flattens its increases investment correlation.
  • What use to be uncorrelated asset classes like international stocks and domestic stocks are now just stocks.
  • The internet allows people to believe what they want to believe. You think gold is going to $100, then there are entire worlds on the internet that believe this. And if you believe gold is going to $10,000 the same is true.
  • The most powerful person in the world is Mark Zuckerberg, as he controls what more people see (and think) than the Catholic Church, Communism, the NRA or Islam.
  • Free trading fees and ETFs  have not helped performance.

As The World Has Flattened – Diversification Has Lost its Power.

And now it’s just costing people their stability.

24 years after the world started its most recent and significant flattening process. Why are Big-box advisors and pick of the month newsletters still talking about the value of diversification?

This one is simple. It’s good business to build complicated and complex solutions that are hard to implement. In other words, complexity sells.

So is it true? Has diversification been losing (lost) its power?

Below are 3 verifiable price charts to demonstrate this investing shift.

Why three?

There have only been three times in the past 24 years since the US markets fell more than 20%. And all three are below.

Three is not a large sample size but it’s what we have since 1995.

Before we get to the three data points, I want to point out something, the only time people need diversification is when their core asset is falling (accelerating) to the downside.

After all no one needs to be diversified to slow the growth of their money. So having diversification work when the market is falling is when it’s needed most.

Proof #1 The 1998 Bailout of Long-Term Capital Management.

Before the bailout of Wall Street in 2008, The Fed started bailing out financial institutions in Greenwich Connecticut ten years earlier.

In 1998 Long Term Capital Management (LTCM), a hedge fund controlling north of $100 billion dollars, imploded and almost took down world markets.

Want to know what happens when you mix Phd’s, nobel laureates and Goldman Sach execs with billions of dollars?  You get a 25% correction in the US Stock Market and a 30% correction (at the exact same time) in the international stock market… and a best selling book, Titled When Genius Failed.

The blue line in the price chart below is the MSCI International Index. The black line is the S&P500 index. Please note losing 25% and 30% concurrently does not feel like a diversified portfolio.

You can see from July to October 1998 (three months) that both international and domestic markets fell hard.1998 - LTCM crash

 

Proof #2 The 2000 Dot Com Crash.

When the Dot Com Crash of 2000 to 2002 hit the entire world of stocks, no sector, segment, size or location was spared. They all fell between 45% to 70%.

The price chart below is comparing US Domestic (the blue line) and MSCI International Index (the red line) during the Dot Com Crash.

2000 Dot Com Crash

Stock diversification is not protecting people anymore.

The next image below is taken during the Global Financial Crisis of 2007 to 2009. As you can see being diversified into domestic, large cap value, international, small cap, mid-cap and value didn’t save the investor either.

All the sectors, segments and size all fell between 55% to 62%.

Proof #3 The Global Financial Crises.

From 2007 to 2009 the entire stock markets of the world, all sizes, segments and sectors all fell between 50% to 65%.

 

The stock markets of the world now rise and fall together

Before Netscape’s IPO, the world wasn’t correlated.  When the Japanese market fell 80% like it did in the 1990’s the rest of the world shrugged it off.

And right now 2/3rds of the people reading this blog post are heading for a big fall because they are believing a well diversified portfolio will save them. Even though it didn’t save them the last time the market fell.

That means if 10,000 people are reading this blog, 6,667 are heading for a very hard landing if they don’t do something.

And if they get this wrong, their sleep is going to deteriorate.

Some of them will have to put off retiring all together. Some will have to go back to work. Some will have to move to a different part of the country to “down size.” Not because it’s the thing to do but because they thought diversification would help them.

Some people will not have enough money and will become a burden on their kids.

But if you get it right you can turn everything around today.

You can eliminate anxiety, angst, stress and overwhelm and know everything is going to be okay. Not because you believe so but you can verify it immediately that you’re okay.

To verify means you’ll be able to check and demonstrate that your positions are accurate, true and justified.

Think of it this way.

If the “stock ship” hits an iceberg (LTCM implosion, Dot Com Crash, Global Financial Crises) all stocks go with it.

See below for what I’m talking about.

Stock ship

It use to be that if you got the symbols right or the sector right or the diversification right, you’d be okay.

But the Internet, and high download speeds and smartphones and Twitter changed everything.

The game has changed.

But you don’t have to be holding the bag again. You don’t have to lose half of your money again. You don’t have to have any more sleepless nights.

There’s a better way.

A way that allows people to sleep good at night. A way that let’s people know they will not run out of money.

I’ve put all of my research into this masterclass. I present the data. And then show you a far simpler way to make sure you will have enough money.

It’s not buy and hold.

It’s not trading.

It’s not timing.

It’s something completely different that was discovered in 1986.

You can watch the masterclass right here for free.

In Your Corner,

RCPeck-Dig Signature.JPG     
RC Peck, CFP

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