Alternative Thinking

It Was the Worst of Times: Diversification During a Century of Drawdowns

Topics - Asset Allocation Tactical Asset Allocation Portfolio Risk and Performance Portfolio Construction

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It Was the Worst of Times: Diversification During a Century of Drawdowns

Big equity drawdowns happen time and again and tend to drag down typical investor portfolios with them. Unfortunately, attempting to tactically avoid the next equity sell-off is likely to disappoint investors. This article uses nearly 100 years of data to evaluate the effectiveness of diversifying investments during the worst of times for most portfolios. We analyze the potential benefits and costs of shifting away from equities, including into investments that are diversifying (i.e., lowly correlated) and investments that are defensive (i.e., expected to outperform in bad times). With regard to the latter, we observe an intuitive trade-off: investments with better hedging characteristics tend to do worse on average. Investors should evaluate this trade-off in deciding how—and how much—to diversify their exposure to equity drawdowns.


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The information contained herein is only as current as of the date indicated, and may be superseded by subsequent market events or for other reasons. The views and opinions expressed herein are those of the author and do not necessarily reflect the views of AQR Capital Management, LLC, its affiliates or its employees. This information is not intended to, and does not relate specifically to any investment strategy or product that AQR offers. It is being provided merely to provide a framework to assist in the implementation of an investor’s own analysis and an investor’s own view on the topic discussed herein. Past performance is not a guarantee of future results.


Hypothetical performance results have many inherent limitations, some of which, but not all, are described herein. The hypothetical performance shown was derived from the retroactive application of a model developed with the benefit of hindsight.  Hypothetical performance results are presented for illustrative purposes only.


Diversification does not eliminate the risk of experiencing investment loss.


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AQR Capital Management is a global investment management firm, which may or may not apply similar investment techniques or methods of analysis as described herein. The views expressed here are those of the authors and not necessarily those of AQR.