No question, William Richkus' portfolio is diversified.
His holdings: mutual funds with corporate and municipal bonds, inflation-protected Treasuries, real estate, international stocks and small-, medium- and large-cap equities in growth and value styles. Last month, when the U.S. stock market turned in its worst performance in years, Richkus noticed something across all asset classes: Down. Down. Down. Waaaay down.
"Every one of those funds declined, although to differing percentages," he e-mailed.
"Isn't the object of diversification to have some of your money in funds that go up when others go down?"
Good question. Some market professionals agree that diversification isn't what it used to be. "Things are more correlated," says Jerry Miccolis, a financial adviser with Brinton Eaton Associates in New Jersey.
Before World War II, European stocks were the way to diversify, Miccolis says. More recently, it was emerging markets. As companies' operations become global, it's less important where they're based. As a result, their stocks move more in tandem, he says.
Commodities - oil, natural gas, textiles, metals - are still one of the best diversifiers around, Miccolis adds. But eventually that, too, will change as more investors flock to commodity funds and they become more like other investments.
Some suggest asset classes tend to move in the same direction in the short run when they all react to the same investor emotion. Stock and bond markets now fear inflation and higher interest rates, says Ned Notzon, chairman of T. Rowe Price's asset allocation committee. Higher rates raise the cost of borrowing for businesses and push stock prices down. They also lower the value of existing bonds and push bond prices down.
But over longer periods, stocks and bonds don't necessarily behave the same. Remember the bear market five years ago? "As stocks went down, the value of bonds went up," says Anita Clemons, vice president of investments for New Covenant Funds in Indiana.
No one is suggesting investors give up on diversification. It works. Even when assets move in the same direction, it's not to the same degree. And diversification reduces a portfolio's volatility and keeps investors from panicking, Notzon says.
Richkus, an oceanographer who lives in Catonsville, says he's not giving up on diversification. He sees the long-term merits.
Besides, not long after all his funds went down, they all went up.
Reader Tom German of Parkville asks: Why did I bonds dramatically drop from paying 6.73 percent in the fall to 2.41 percent this spring?
The answer: Modest inflation.
I bonds are U.S. Savings Bonds tied to inflation. Their rate is adjusted every six months. Last year, the rate jumped after Hurricane Katrina whipped up inflation. By winter, inflation calmed down and even dropped for a couple of months, says Stephen Meyerhardt, spokesman with Treasury's Bureau of the Public Debt. Come spring, the milder inflation rate was factored into the new I bond rate.
I bond holders might be disappointed. But mild inflation has lots of other benefits.
Questions? Comments? Write Eileen Ambrose at firstname.lastname@example.org.