Illustrative article · Sample editorial content and publication date, prepared for this website. Not a disclosure of proprietary research.
The arithmetic
Combining strategies with equal risk and no correlation reduces portfolio volatility in proportion to the square root of their number: four uncorrelated strategies halve it. With correlation, the benefit shrinks quickly. At an average correlation of 0.5, adding strategies never takes volatility much below 71% of a single strategy’s.
Correlation moves
Correlations measured in calm periods often rise in stressed ones, exactly when diversification is needed. Estimating them across different regimes, and not only over the full sample, gives a more honest picture.
Different sources, not different names
Strategies diversify only if their returns come from different sources: premium decay, mean reversion, trend, order flow. Two strategies built on the same idea in different instruments often behave as one.