Posted by on Oct 1, 2018 in Articles & Advice, Blog, Columns, Featured |

Image Credit: Antonio de Pereda y Salgado, “Allegory of Vanity,” detail (ca. 1634), Kunsthistorisches Museum, Vienna, via Wikimedia Commons


By Jason Zweig | Oct. 1, 2018 11:02 a.m. ET

After I pulled one old column out of my archives, I found another piece — from an old “mailbag” feature in which I answered questions from readers — in which I had said essentially the same thing in a more frivolous tone.  I post it now mainly as a reminder that whenever people start questioning the value of diversification — as countless investors did in late 1998, 1999, and early 2000 — overconcentration and overconfidence must be on the rise, and the risk of being underdiversified is likely to materialize.  I don’t think we’re there yet in 2018, but you should always be vigilant against the risk of believing that risks have been repealed.  Look carefully at the letter the reader sent me.  If you ever hear anyone else — or yourself! — sound like that, it’s time to broaden your portfolio.


In Defense of Diversification

Jason Zweig, “Mutual Fund Mailbag,”, July 28, 1999


What do you have to back up your “invest in everything” dogma that [advocates] buying foreign and domestic stocks and bonds? The world has finally settled down since WWII, and the U.S. came out on top. The last few years have proven that we can survive while the world is weak. All an investor needs is a well-diversified U.S. [stock] fund. I believe that this will beat the “buy everything and it is bound to go up” philosophy. 
Brian Martin 


Dear Brian: 
If long-term investing were exclusively about maximizing returns, you might be right. But investing is also about minimizing risk. Your argument that the U.S. is on top of the world is precisely what the “experts” were saying about Japan ten years ago. Before long, we were told, we would all be eating sushi for breakfast whether we wanted to or not. Now I don’t know about you, Brian, but I ate a bagel this morning, and I rather enjoyed it. And ever since all the experts agreed that Japan’s economy would dominate the world for decades to come, the Japanese stock market has lost more than half its value.

Now I’m not saying the same thing is going to happen in the U.S. But the next time you meet an experienced Japanese individual investor, I think you should ask him whether he thinks investing outside one’s own stock market is a bad idea!

To take another example, many investors may be asking why anyone would want to own bonds. First off, stocks are not anti-gravity machines; someday (and no, I don’t know when), they will stop going up. They might do nothing for a decade or more, or they might lose 40% of their value. With stocks, anything is possible, as this chart [of 10-year rolling returns of stocks and bonds] from research firm Ibbotson shows.

Meanwhile, Uncle Sam guarantees that he will double your money in 12 years — this 6% return, at absolutely zero risk [2018 note: other than inflation or default!], sounds like chickenfeed now, but it will seem like pure platinum when stocks stop going up.

Second, bond returns have matched or beaten stock returns for surprisingly long periods, 1966 through 1982 being just one example.

Third, bonds have tended to do well when stocks (and individuals’ salary growth) do poorly. For example, in 1990, when the S&P 500 lost 3.2%, medium-term Treasury bonds gained 9.7%, while in 1973-1974, when blue chips lost a mind-blowing total of 37%, bonds returned 10.6%.

Finally, the probability that stocks will outperform bonds, even for periods of 20 years or more, is not 100%; in fact, depending on valuations and volatility, that probability can go below 50%.

In short, we simply do not, and cannot, ever know exactly what the future will hold. Betting everything on a single kind of asset (like the U.S. stock market) is not much wiser than betting everything on a single stock (like Cendant or Iomega, or even Microsoft). Yes, it’s always possible that U.S. stocks will pummel everything else until the end of time. It may even be probable. But it is far, far from certain.

Since you already live in the U.S., earn your salary in dollars, and pay your mortgage with dollars, do you really want to tie up 100% of your financial assets in the U.S. stock market? You are taking a multi-layered gamble that no other investment will do as well. If you turn out to be wrong, what will you use to cover your downside — and your backside?

Personally, I am delighted to keep roughly 20% of my portfolio in bonds, and more than 25% in foreign stock funds. To me, the best definition of investment risk is the chance that when all is said and done, with the gift of 20-20 hindsight, I will regret my choices.

And decades from now, when you and I both are taking our teeth out at night, which risk will feel worse: looking back and feeling we made less money than we could have, or looking back and feeling that we lost more money than we should have?

I’d rather take the first risk; if you prefer the second, I wish you the best of luck.



For further reading:


Benjamin Graham, The Intelligent Investor

Jason Zweig, The Devil’s Financial Dictionary

Jason Zweig, Your Money and Your Brain

Jason Zweig, The Little Book of Safe Money

Articles and other research:

To Be a Great Investor, Worry More About Being Wrong Than Right

Saving Investors from Themselves