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portfolio diversification strategies

Portfolio Diversification Strategies | Practical Implications

How important is portfolio diversification?

When trading we will sometimes have to make sacrifices. There just aren’t enough hours in the day to do everything. We need to prioritize what we do effectively to gain the most benefit.

Depending on whether we are a discretionary trader or an algorithmic trader, will impact how you implement a portfolio diversification strategy.

Key considerations when implementing a Portfolio Diversification strategy

Time will always be a consideration. As discussed previously, diversification is an important component of risk management at the portfolio level, but it is not the ‘golden bullet’.

Portfolios need to be looked at holistically.

Where are our efforts best focused on at this time? It may be that your underlying trading strategy still needs work before you can benefit from implementing a diversification strategy.

Or it may be that your strategies are nice and robust, and you can now focus your time optimizing the portfolio risk side of things.

Ultimately, you’ll need to decide where your time is best served.

But how do I know what to do?

In the video, Martyn goes over some of his personal experiences with how he trades his portfolio of strategies. They don’t just provide you with great educational content, our presenters also trade the markets themselves. Where do they find the time!

Another consideration is how you trade.

Do you trade manually, or do you trade using automation?

If you’re a discretionary trader; your skill, and the number of monitors you have, may limit the number of assets you can manage at once. Again, your circumstances will dictate what works best for you.

A long-only, passive portfolio will need a different approach to diversification than that of a more active portfolio like the example in the video.

So, what can we take away from this?

We need time to implement what we know, and we need to know what to implement when we have the time.

Argh yes, the circle of life trading decisions.. 😌

Take a step back from your portfolio and look at it with a bird’s eye view. What is the most impactful thing you can do now that will help improve your trading?

Did you know we have a Slack group dedicated to trading?

Feel free to join here. We’d love to connect and talk shop.

If you’re new to portfolio diversification, consider reading this post to get some background on the topic.

Brought to you by Darwinex: UK FCA Regulated Broker, Asset Manager & Trader Exchange where Traders can legally attract Investor Capital and charge Performance Fees.

Risk disclosure:
https://www.darwinex.com/legal/risk-disclaimer


Content Disclaimer: The contents of this video (and all other videos by the presenter) are for educational purposes only, and are not to be construed as financial and/or investment advice.

MetaTrader Expert Advisors: The Set & Forget Myth [EAS-II]

Is Portfolio Diversification alone, sufficient for managing risk?

Portfolio Diversification is a critical consideration when managing the risk of a portfolio of trading strategies.

If you’ve watched the previous introduction to trading diversification video you’ll know how important it is.

However, it isn’t the only consideration 💡

We’re going to discuss some things to be aware of when looking into risk management techniques.

Here are two considerations where diversification might not work as well as one would hope:

1) Black Swans

It’s okay, you don’t need protection from Natalie Portman. A black swan is an “unpredictable event that is beyond what is normally expected of a situation and has potentially severe consequences”.

Can you think of an example of a black swan?

Tag us on Twitter (@Darwinexchange) with your thoughts, and if you’ve been the victim of a black swan event?

During these events, previously uncorrelated assets tend to become correlated due to unforeseen circumstances. This can reduce the effectiveness of this method of risk management.

2) Market Randomness

Regardless of how correlated two assets are. There will be times when both move in the same direction.

This temporary correlation doesn’t mean the same forces are driving them.

Due to the sheer quantity of assets and the nature of the financial markets, there will be a level of randomness to the price action. Thus reducing the effectiveness of portfolio diversification.

Ultimately, knowledge is power. By understanding areas where diversification may not be as effective, we can take steps to mitigate these risks. Reducing the risk on your portfolio is a multi-stage process.

Portfolio diversification is important, but it is only one aspect.

Hopefully, by the end of this series, you’ll feel comfortable implementing these valuable insights into your own portfolio.

Pop Quiz

If we diversify our portfolio across 4 uncorrelated assets, using the figures Martyn gives in the video, fill in the blank:

Diversification can only contribute to reducing the risk a max of __________% of the time.

Answers in the comments below!

The issues discussed here are just some of many that need to be considered when measuring risk.

Video Series: Why & How We Measure Risk differently at Darwinex

Watch the full playlist on YouTube here

Here’s video #1 where we describe the differences between Money Management and Risk.

Brought to you by Darwinex: UK FCA Regulated Broker, Asset Manager & Trader Exchange where Traders can legally attract Investor Capital and charge Performance Fees.

Risk disclosure:
https://www.darwinex.com/legal/risk-disclaimer


Content Disclaimer: The contents of this video (and all other videos by the presenter) are for educational purposes only, and are not to be construed as financial and/or investment advice.

darwin api

Introduction to Diversification | Reducing Risk by Portfolio Trading

Welcome to our latest content series on Portfolio Diversification.

It aims to provide a higher-level view of portfolio management ideas, rather than the specific indicators highlighted in the previous series Algo Trading for a Living.

We’ll kick things off with an Introduction to Portfolio Diversification.

Diversification is a really powerful tool for reducing the overall risk of your portfolio.

We’re going to look at the fundamental reasons diversification is an important part of any portfolio level trading strategy.

Firstly, what is “diversification” anyway?

We’ve probably all heard the saying ‘Don’t put all your eggs in one basket’; this refers to diversification.

In terms of finance, Portfolio Diversification is a term used to explain how trading portfolios can be constructed in a way that reduces the overall risk of the portfolio.

Diversification also smoothens drawdowns, in a way that is difficult to achieve by trading the components of the portfolio separately.

During this series, we’re going to look at four diversification techniques; starting in this video with a simple example using two uncorrelated FX currency pairs.

 

Which two FX pairs do you think we’re going to use?

Before watching the video, share your thoughts in the comments section below!

 

In the example, we discuss how to trade these two pairs as a mini-portfolio to help reduce the overall drawdown at the portfolio level.

Diversification is a technique that contributes to lowering the overall portfolio risk enabled by the trading of multiple; uncorrelated-techniques.

 

Do you trade any single-asset, systematic trading strategies?

Try doing some backtests on other uncorrelated assets.

Did you see any benefit from diversification? Let us know in the comments below!

 

Brought to you by Darwinex: UK FCA Regulated Broker, Asset Manager & Trader Exchange where Traders can legally attract Investor Capital and charge Performance Fees.

Risk disclosure:
https://www.darwinex.com/legal/risk-disclaimer


Content Disclaimer: The contents of this video (and all other videos by the presenter) are for educational purposes only, and are not to be construed as financial and/or investment advice.