Investment managers use diversification to reduce risk in a portfolio. There are several reasons for this. First, diversification reduces the chance that a single position will have a major impact on a portfolio. A one stock portfolio can have a serious impact on client wealth if the stock drops. By owning hundred of stocks via mutual funds, the effect of a single poorly performing stock is greatly reduced.
Another method of diversification in a portfolio is to hold multiple “non-correlated assets.” What non-correlated refers to is assets whose value can change independent of the core financial stock and bond markets. Traditional examples of non-correlated assets include alternative investments, real estate, precious metals and private equity.
Alternative investments include hedge funds, managed futures, currencies, absolute return strategies and tactical strategies. Adding non-correlated assets to a portfolio can help to ease its overall volatility and smooth out its returns over the long term.