To the clients and friends of ProfitScore:

When Everything Falls Together

Last week’s selloff was a masterclass in broken diversification. Here’s what to do about it.

My grandfather told me something when I was a kid that I’ve never forgotten: “Ten thousand dollars is not a lot of money. unless you don’t have it.” I’ve thought about that line a thousand times in my career. When things are rocking and the portfolio is green, even the gains don’t feel like enough. But the moment they disappear? Oh, they were a lot.

That’s why I believe the greatest skill an investor can develop is becoming an absolute savage when it comes to diversification. Not a casual believer. A real expert who obsesses over how their portfolio behaves when things go sideways. Because last Thursday gave us another pop quiz, and a lot of portfolios failed it.

February 5th: The Pop Quiz Nobody Studied For

S&P 500 down 1.23%. Nasdaq down 1.59%. Bitcoin below $70,000. Silver collapsed 20%. Gold already reeling from an 11% single-day plunge after the Warsh Fed nomination. Stocks, crypto, precious metals. all falling together.

Correlations effectively went to one.
Hmmm… you thinking what I’m thinking?

If you’re still running a 60/40 set-it-and-forget-it, we need to talk. Those days are gone. Look at 2022. Bonds didn’t cushion the blow; they did worse than equities for much of the year. The thing supposed to zig when stocks zagged? It zagged harder. That’s not diversification. That’s concentration with extra steps.

Why This Keeps Happening

Here’s the uncomfortable reality. Passive indexation now accounts for an estimated 45%+ of U.S. equities, and the real number may be double that once you count closet-indexing. When billions flow into an index fund, every stock gets bought simultaneously, regardless of fundamentals. Stocks are moving as a herd, not as individual businesses.
Layer in margin debt at 3.91% of GDP. above both the dot-com and 2007 peaks. And you get a market primed for cascading selloffs. Prices drop, margin calls hit, forced selling begins, prices drop more. Research shows this only happens on the way down. There’s no forced-buying equivalent on the way up. Ain’t that something.

Look at that green-to-red shift. On the left, calm markets. assets behaving independently, diversification working. On the right, stress. everything in lockstep. The diversification you were counting on? Gone. Right when you needed it most.

So What Do You Actually Do About It?

You don’t abandon diversification. You diversify the diversifier. No single alternative works in every environment. Trend-following CTAs deliver crisis alpha during selloffs but whipsaw in choppy markets. Long volatility pays off during crashes but bleeds premium the other 85% of the time. That’s the tradeoff nobody wants to hear.

The answer is an alternatives sleeve combining multiple uncorrelated return streams. trend, volatility, global macro, and non-financial risk premia. So at least one engine is running when the others sputter. Pair that with regime-adaptive allocation that shifts as conditions change, and you’ve got a framework built for the real world. where the next correlation spike is a matter of when, not if.

 
My grandfather was right. Ten thousand dollars isn’t a lot of money. until you don’t have it. And a diversified portfolio isn’t worth much, until a day like February 5th. Be a savage about this. We’d love to hear your thoughts.