A basic tenet of portfolio management is diversification via low cost index funds, this is a no brainer. For most people this is a prudent way to participate in the growth of phenomenal companies and economies, around the globe. In this blog, we tackle what we call as "blind diversification" and the myth of "more is always better".
Let us expand on this by comparing an ETF, SPY that tracks the SNP 500 and another ETF VGK, the VANGUARD EUROPEAN STOCK INDEX FUND. The SNP 500 as you may know has ~500 holdings, the VGK ETF has 1371 holdings. Both funds hold phenomenal companies in the US and Europe, respectively in SPY and VGK.
Figure 1 shows returns for the various time periods. Over a 1 year period (as of 3/9/22) a +16% returns on the SNP 500 vs. +5% for VGK (Europe). OK, you would be right to call me out the short term nature of this data as well as the decline in Europe due to the horrible atrocity of the ongoing war in Ukraine. But, alas, let's look the 5 year chart the 10 year returns, the picture does not get any better. Over 10 years the SNP500 has a ~8% higher returns vs the returns of the VGK! For a lot of people that could be a retirement, 5 years earlier.
In summary, while diversification is important, the outcomes don't always turn out as expected. There needs to be a deeper understanding of the underlying holdings (in an ETF) and the growth prospects. An active student/participant of the market such as a financial advisor can increase your probability of better returns. This is also backed up by independent research. Fundamental analysis of companies and economies and active money management has a real role to play in better return on investments.
This blog was written by Adarsh Shyamsundar, Owner & Financial Advisor, Polaris Capital Management, LLC, a Financial Advisory firm based out of El Dorado Hills, California.
No part of this blog should be treated as financial advice. Please refer to a financial advisor/fiduciary for any actions regarding investing on any equities mentioned in this article. Adarsh Shyamsundar and/or Polaris Capital Management may have positions in the securities mentioned in this article.