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Reddit Investors Shake Up Wall Street: Why Portfolio Diversification Is Key

In the never-ending desire to get rich quick, Reddit investors are the new kings and queens of day trading.

Back in college, I was a degenerate day trader who bet on stocks between classes, partially based on what I read on message forums. More than 25 years later, it is fascinating to see forum-based trading explode again, but with much more firepower.

The following is a guest post from FarmTogether, a leading farm investing platform and Financial Samurai sponsor. With FarmTogether, you can diversify your portfolio and increase your passive income in a less volatile manner.

The Rise Of Reddit Investors

Reddit investor’s unprecedented short-squeeze attempt on hedge funds betting against GameStop shook institutional and individual investors alike.

There’s never been a forum as large or tight-knit enough to make a power play of this magnitude. Add it all up and there’s a strong likelihood that this is far from the last major market play of its kind.

Whether or not you’ve bought shares of GameStop or other targets of the Wall Street Bets subreddit, it’s crucial to be aware of how these market moves can impact your portfolio.

Although you’ve read the headlines about some investors making lots of money trading Gamestop, don’t be fooled.

The majority of traders likely lost their shirts getting caught up in the hype. That’s what happens when an asset goes up 10X and returns back to where it started several weeks later.

[Gamestop share price]

Instead of day trading, it’s a better strategy to have a long-term, diversified portfolio. You likely won’t get rich quick. However, you likely also won’t end up losing a ton of money and sleep.

It is simply too hard to consistently try and get in early on the next Gamestop and then get out in time.

Diversification, especially diversification into the right alternatives, can help you prepare for similar disruptions in the future.

However, diversification, is only as good as the assets you pick. Finding the right balance is critical, especially for investments outside the markets.

What the Reddit-Fueled Market Moves Mean For Investors

Here’s what you need to know about diversifying your portfolio in a new landscape. You would be forgiven if your current portfolio doesn’t incorporate short selling, options trading, or derivatives.

The derivatives market accounts for roughly $12 trillion in value. But, these alternative investments are not usually part of the average investor’s strategy. For the most part, they’re mostly the domain of hedge funds and day-traders.

These two groups are behind what’s currently happening with GameStop stock and other speculative names. Thus, as an individual investor, it may be somewhat hard to understand how and why the whole thing matters.

But, even if you’re not gobbling up and puking out GameStop and AMC like some Redditors are, there could still be implications for your portfolio. Wall Street Bets has proven it has the ability to move markets as a collective. This means other major moves are more than likely down the road. For example, there is one happening now in marijuana stocks.

In turn, hedge funds and other trillion-dollar entities are dealing with a new reality. They are no longer the only investors capable of making markets jump. We’re still in the early days of this new reality. As a result, it’s hard for even the most heralded financial experts to know what’s coming next.

Portfolio Diversification With Alternatives

One thing’s for certain, however. This entire episode reinforces the need for portfolio diversification. Although there’s no evidence to suggest that a group like Wall Street Bets may try to short stocks next, doing so could impact the long portion of your portfolio.

If you’ve spread your assets around an assortment of investments, you may have less to fret over if a stock you hold is next to be in the headlines.

But, the issue with such heavy speculative investing is that it may create huge losses and forced selling. This in turn can bring down the broader markets.

Veteran investors clearly remember what happened to the NASDAQ and S&P 500 after the go-go days of 1999 and early 2000. It took more than a decade for these indices to get back to even.

Below is a classic chart that shows the correlation with Alternatives, Equities, and Bonds with each other. The hypothetical portfolio comprises of a 40% allocation to equities, 40% allocation to bonds, and 20% allocation to alternatives.

[Source: Bloomberg]

Bonds clearly provide the biggest diversification against equities with a -0.506 correlation in this chart. However, alternatives offer some diversification with less correlation at +0.796. In other words, if you are still relatively bullish on the economy, but want less volatility, alternatives may be a good solution.

More Diversification Options Than Ever Before

Retail investors are increasingly aware of the role alternative investments have in their portfolio. One of the biggest attention-grabbers right now is derivatives, given their role in the GameStop stock surge.

These alternatives are tied much more directly to the markets, making them inherently more risky. Unless you plan to set up a trading battle station to start day-trading, you’re better off looking at other diversification options

Thankfully the world of alternatives is filled with diversification opportunities. Many are more conservative and stable than options trading, for certain. They also offer a diverse set of results as well, which are two attractive attributes for the long-term investor. 

Picking The Right Alternative Investments For Diversification

Some of the more popular alternatives for long, steady growth are in real estate, gold, and farmland investing.

Property can provide investors a real asset that appreciates in value without its worth being tied to the stock market. REITs are a common investment option that allow you to have fractional ownership in one or more properties.

However, as we saw during the March 2020 downturn, many REITs sold off even harder than the S&P 500. Therefore, you would have been better off investing in private real estate if you wanted less volatility.

Owning real estate outright and investing in REITs aren’t the only ways to enter the alternatives market. Farmland investing is another diversification option that can expose you to real estate in the farming sector.

According to USDA statistics, farmland value experiences little volatility and steady growth as indicated by the last 30 years.

The average acre of farmland in the United States cost $1,189 in 1987 (adjusted for inflation for 2020). That figure has more than doubled since.

The Benefits Of Farmland Investing Include:

  1. Inflation hedging as the price of food increases
  2. Favorable diversity due to a negative correlation with other asset classes
  3. Stability, partially thanks to limited supply and a growing population
  4. Higher yields, which is attractive in a low interest rate environment
  5. Capital appreciation, due to supply and demand
Reddit Investors Shake Up Wall Street: Why Portfolio Diversification Is KeyReddit Investors Shake Up Wall Street: Why Portfolio Diversification Is Key

Precious Metals, Fine Art, Wine & More

Gold is another diversification option, especially when stock markets are volatile. By incorporating gold or other precious metals into your range of assets, you may be able to help dampen the volatility.

Speaking of precious metals, the price of silver is up more than 50% over the past 12 months. This is partially thanks to Reddit investors as well.

There are a whole host of other alternative investments you can incorporate into your investing strategy. These include fine art, wine, collectibles, and more. Many of these assets also appreciate with age or scarcity. The right option depends on your own goals and appetite for risk.  

Why Alternatives Are The Future Of Diversification

Alternative investing is one way to seek out new diversification opportunities. Democratizing who can invest in certain types of alternative investments that were once reserved the the ultra-rich is what FarmTogether and other platforms are seeking to accomplish.

If you want to minimize volatility with potential upside, investing in alternative assets will help. After all, who wants to go through another March 2020 meltdown?

Farmland investing offers investors with an opportunity to pursue measured and consistent growth. Investing in farmland with FarmTogether also provides you with a platform driven by experts dedicated to seeing your investments grow.

Liquidity, transparency, and an investor-centric philosophy are at the core of what FarmTogether provides. You can get started with as little as $15,000, which avails you to a wide assortment of hand-selected farmland investments guided by industry experts.

You can always learn more about FarmTogether on our FAQ or sign up for an account to get started right away.

Source: Reddit Investors Shake Up Wall Street: Why Portfolio Diversification Is Key

Written by Financial Samurai

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