The Trickiness of ETF Diversification

According to Barry Ritholtz of Ritholtz Wealth Management, a frequent contributor to CNBC as well as Bloomberg, “the beauty of diversification is that it’s about as close as you can get to a free lunch in investing.” Since 2011, however, investors who diversified in stocks outside of the U.S. and who diversified across other asset types (e.g., commodities, currencies, gold, pipeline partnerships, etc.) have consistently underperformed the plain vanilla approach of owning the S&P 500 SPDR Trust (SPY) alongside a modest buffer of Vanguard Total Bond Market (BND).

Of course, the S&P 500 itself has struggled year-to-date (through 11/16). The price has essentially flat-lined over ten-and-a-half months at 0%. It follows that one might be led to believe that underwhelming performance in the large-cap benchmark might imply overwhelming performance elsewhere. After all, this is where diversification should shine.

So, then, has the “free lunch” of diversification finally make a comeback? Hardly. Consider the list of 16 asset types and accompanying exchange-traded vehicles in the table below.