Why maintaining a diverse portfolio with low correlation is key to financial stability?

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Valtrust. A low correlation between your investments in the various asset classes, ensures that when one asset class experiences volatility or decline, the others remain unaffected or may even perform well, thereby reducing the portfolio's overall risk.

Generally speaking, asset allocation falls into the following categories, fixed income, equities, gold and international equities. “While doing asset allocation, that is diversifying your portfolio, the correlation between the various types of asset classes should be kept low as it can mitigate the impact of market downturns on the entire portfolio, therefore, enhancing the stability of the overall portfolio," says Priti Rathi Gupta, Founder of LXME.

Please note that the different asset classes tend to perform well in different economic situations, hence a low correlation between the various types of asset classes enables an investor to benefit from a range of market conditions. Overall, this enables them to manage the risk, optimise the returns, and achieve their financial goals.

“Low correlation means that the prices of these assets classes (stocks, bonds, gold, international equities) do not move in tandem, so when one asset class performs poorly, others may perform well, thus helping to mitigate overall portfolio risk," says Anurag Jhanwar, Partner and Co-founder, Upwisery Private Wealth. Diversification across uncorrelated assets can potentially enhance risk-adjusted returns and reduce the overall volatility of a portfolio. They act as a protection against various market scenarios as different asset classes respond differently to economic factors.

Thus, stocks generally do well in an expanding economy, while bonds tend to perform better in a slowing economy. Gold