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Diversification Explained: Is Your Portfolio Actually Diversified? | Canadian Investing · How Canadian Markets Work

• 0:00
  Imagine you spend years, I mean, meticulously
• 0:03
  building a financial fortress. You save aggressively,
• 0:06
  you invest consistently, and you feel entirely
• 0:09
  secure. Then a storm hits and you realize you
• 0:12
  left the front door wide open. Yeah, that is
• 0:15
  a terrifying realization for a lot of people.
• 0:17
  Right. And in episode 93, we talked about a very
• 0:20
  specific way people leave that door open, which
• 0:23
  is sequence risk. We broke down how the actual
• 0:26
  order of your returns, like experiencing a market
• 0:29
  crash right when you start withdrawing money
• 0:31
  for retirement, can just completely wipe out
• 0:33
  your portfolio. Exactly. Even if the long -term
• 0:35
  market averages look you know, perfectly fine
• 0:38
  on paper. The order of those returns dictates
• 0:41
  whether theoretical market volatility translates
• 0:43
  into a permanent real -world loss of your capital.
• 0:46
  It's scary. It is. It's one of those dangerous
• 0:48
  unseen threats to long -term wealth. Well, today
• 0:51
  we are pivoting sharply to the supposed antidote.
• 0:54
  We're tackling what is widely known as the only
• 0:57
  free lunch in finance, which is diversification.
• 0:59
  The holy grail for investors. Yeah, but is it
• 1:03
  really? Our mission for this deep dive is to
• 1:06
  explore the actual fundamental math behind how
• 1:09
  mixing different assets together somehow magically
• 1:12
  lowers your volatility without sacrificing your
• 1:15
  expected return. Which sounds too good to be
• 1:17
  true, I know. Right. And because nothing in life
• 1:19
  is ever truly free, we are also going to unpack
• 1:22
  why this mechanism has a terrifying tendency
• 1:26
  to fail during market panics. It really does.
• 1:29
  We'll decode the trap of Canadian home bias and
• 1:31
  finally reveal why your day job and your house
• 1:34
  are secretly the biggest undeclared risks in
• 1:37
  your entire portfolio. It's a massive topic.
• 1:39
  Okay. To really understand why diversification
• 1:43
  earned that free lunch title, we have to look
• 1:45
  at the underlying mathematical menu. OK, lay
• 1:47
  it on us. We need to examine how different assets
• 1:50
  interact with one another through the mechanics
• 1:52
  of correlation. OK, let's put a pin in correlation
• 1:54
  for just a second because I want to challenge
• 1:56
  this free lunch idea right out of the gate with
• 1:58
  a culinary analogy. All right, let's hear it.
• 2:00
  So if I have a bowl of incredibly spicy hot sauce,
• 2:04
  right, and I mix in a second completely identical
• 2:07
  hot sauce, I don't get a milder sauce. No, you
• 2:10
  definitely do not. Right. I don't reduce the
• 2:12
  heat. I just get a larger bowl of the exact same
• 2:15
  agonizing heat. But if I take that hot sauce
• 2:17
  and I mix it with fresh lime juice, the entire
• 2:20
  profile changes. Oh, that's a great way to put
• 2:22
  it. Yeah. The acid cuts the heat, but the underlying
• 2:25
  flavor profile of the dish is preserved. So.
• 2:28
  How does the math actually work here? How does
• 2:31
  mixing investments act like lime juice? You know,
• 2:34
  preserving the return or the flavor while slashing
• 2:37
  the volatility of the heat. Well, the lime juice
• 2:39
  effect comes down entirely to how those ingredients
• 2:42
  move relative to one another. In finance, we
• 2:45
  measure correlation on a rigid scale from plus
• 2:47
  one down to minus one. Plus one means two assets
• 2:50
  move in perfect lockstep. If asset A jumps 10%,
• 2:54
  asset B jumps 10%. Those are your two identical
• 2:56
  hot sauces. Got it. Minus one means they move
• 2:58
  in perfect opposition. If A goes up 10%, B drops
• 3:01
  exactly 10%. So they completely cancel each other
• 3:04
  out. Exactly. And a zero correlation means there
• 3:08
  is absolutely no mathematical relationship between
• 3:12
  their movements whatsoever. So the natural assumption,
• 3:15
  at least for me, would be that to protect my
• 3:17
  portfolio, I need to find the minus one. I need
• 3:21
  assets that are completely negatively correlated
• 3:24
  to cancel out the drops. Right. That's what everyone
• 3:26
  thinks. But the mathematical reality is actually
• 3:29
  far more forgiving. The bar for a tangible benefit
• 3:32
  is surprisingly low. Wait, really? Yeah. You
• 3:36
  do not need a negative correlation to win. Any
• 3:38
  combination of assets with a correlation below
• 3:41
  plus one, meaning they're imperfectly correlated,
• 3:43
  will fundamentally reduce the overall volatility
• 3:46
  of your portfolio. OK, let's ground this in reality
• 3:48
  so we can really feel what this means for someone's
• 3:51
  life savings. Let's say you have a $100 ,000
• 3:53
  portfolio. All right, we can map that out. Imagine
• 3:55
  you hold two distinct assets. And let's say they
• 3:58
  both carry a historical annual volatility of
• 4:00
  15%. You blend them into a 50 -50 mix. If your
• 4:04
  correlation is plus one, Your total portfolio
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  swings by that full 15%. Your $100 ,000 portfolio
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  drops to $85 ,000. Mixing them achieved absolutely
• 4:16
  zero protection. Just a bigger bowl of hot sauce?
• 4:18
  Precisely. But watch what happens as the correlation
• 4:21
  shifts. Let's say the correlation is 0 .5. So
• 4:24
  they move together sometimes, but not always.
• 4:26
  Right, not in lockstep. The annual swing of your
• 4:29
  total portfolio instantly drops from 15 % down
• 4:32
  to roughly 13%. Oh, wow. Just from a 0 .5 correlation.
• 4:36
  Yep. And it gets better. If the correlation hits
• 4:39
  zero, meaning total independence from each other,
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  the volatility drops to 10 .6%. That's a huge
• 4:45
  drop. And if we manage to find a negative correlation
• 4:48
  of minus 0 .5, your total portfolio volatility
• 4:52
  plunges to 7 .5%. Wait. So just by mixing in
• 4:56
  an asset that zigzags on a different schedule,
• 4:58
  you cut that gut -wrenching $15 ,000 drop entirely
• 5:01
  in half, down to seven and a half grand. You
• 5:04
  cut the volatility in half. And the most crucial
• 5:07
  element of this math, the really magic part,
• 5:09
  is that you get that massive reduction in heat
• 5:11
  with the exact same expected return. Because
• 5:14
  they're still both going up over time. Exactly.
• 5:17
  because the assets are rising and falling at
• 5:19
  different times. They smooth out the turbulence
• 5:22
  of the journey without lowering the final destination.
• 5:26
  You arrive at the same amount of wealth, but
• 5:28
  you didn't have to endure the massive psychological
• 5:31
  stress to get there. That is the free lunch.
• 5:34
  That is the free lunch. OK, so I get that. Like,
• 5:36
  company specific risk is the factory burning
• 5:38
  down. You can dodge that bullet by owning 20
• 5:41
  other factories across different industries.
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  But what happens if the whole town burns down?
• 5:46
  You know, what happens when the macro environment
• 5:48
  turns? Well, that brings us to systematic risk.
• 5:51
  That's when the entire stock market falls. global
• 5:54
  interest rates spike, a pandemic shuts down international
• 5:57
  travel, or credit markets just freeze solid.
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  Diversification works absolute miracles on company
• 6:03
  -specific risk. You can mathematically eliminate
• 6:05
  it, but diversification does virtually nothing
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  to protect you against systematic risk. It hits
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  a very hard floor. So if there is a hard floor,
• 6:15
  how many individual stocks does it actually take
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  to eliminate that company -specific risk? Because,
• 6:21
  I mean, I look at the landscape of retail investing
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  today, and I see people buying dozens of different
• 6:27
  mutual funds. Or they're stacking massive ETFs
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  on top of each other, operating under the assumption
• 6:32
  that they are building this impenetrable, heavily
• 6:35
  fortified portfolio. Yeah, they are running headfirst
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  into the law of diminishing returns. And the
• 6:41
  benefit flattens out. out much faster than human
• 6:43
  intuition suggests. How fast are we talking?
• 6:46
  If you go from holding one single company stock
• 6:48
  to holding 10 different companies, you remove
• 6:51
  an enormous amount of risk. You fundamentally
• 6:53
  alter the survival profile of your money. OK,
• 6:55
  1 to 10 is huge. But going from 30 distinct companies
• 6:58
  to 300 companies, the statistical risk reduction
• 7:01
  is nearly zero. Wait, really? Nearly zero. Let's
• 7:05
  unpack what's actually happening in that person's
• 7:07
  account then. If jumping from 30 to 300 stocks
• 7:11
  does almost nothing to reduce risk, aren't investors
• 7:13
  who hold 15 different mutual funds just massively
• 7:17
  over complicating their lives? Completely. Aren't
• 7:19
  they accidentally building an incredibly extensive
• 7:22
  closet index? Yes. The closet index is a widespread
• 7:26
  wealth killer. When an investor is over diversified
• 7:31
  across multiple active mutual funds, their underlying
• 7:34
  holdings become so broadly scattered that they
• 7:37
  essentially just own a replica of the entire
• 7:39
  stock market index. But they are paying a premium
• 7:41
  for it. They are paying active management fees
• 7:44
  of one or two percent on all those different
• 7:46
  funds, expecting elite performance. Which practically
• 7:49
  guarantees they will underperform the simple
• 7:51
  index fund. They've neutralized all their company
• 7:53
  specific upside, but they're carrying a heavy
• 7:56
  fee drag while retaining all of the systematic
• 7:58
  risk. Ouch. Yeah, they are paying a luxury price
• 8:01
  for average exposure. You just mentioned they
• 8:03
  retain all the systematic risk. So if this mathematical
• 8:06
  free lunch caps out at protecting against individual
• 8:09
  companies failing, what happens when systematic
• 8:12
  risk takes over entirely? We've established that
• 8:15
  the math relies on correlations being imperfect.
• 8:18
  What happens in a full -blown financial crisis?
• 8:20
  That is when we enter the crisis correlation
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  trap. Sounds ominous. It is. The numbers we discussed
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  earlier, the 0 .5, the 0... Those are historical
• 8:30
  averages drawn over long periods. They are not
• 8:33
  laws of physics. Right. During a severe market
• 8:36
  panic, assets that have historically moved completely
• 8:39
  independently of one another suddenly start plunging
• 8:42
  in tandem. The correlation rockets toward one.
• 8:44
  It is like a ship built with watertight compartments.
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  OK, I like that. Right? Like if you hit a small
• 8:49
  rock, the water is contained. That house diversification
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  working beautifully against company -specific
• 8:54
  risk. But in a global financial panic, the entire
• 8:57
  ship breaks in half. The watertight compartments
• 9:00
  don't matter anymore because the ocean is just
• 9:02
  pouring in from the top. That is a phenomenal
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  way to visualize it. The mechanism of diversification
• 9:08
  weakens under the exact conditions you actually
• 9:11
  need it most. Which is terrifying. It is. And
• 9:14
  to understand why the ship breaks in half, we
• 9:17
  have to look at the three primary drivers of
• 9:20
  crisis correlation. The first is forced selling.
• 9:23
  Forced selling. That usually involves things
• 9:25
  like margin calls or massive fund redemptions,
• 9:29
  right? Wait, actually, let's define those mechanics
• 9:31
  for a second for everyone. Sure. A margin call
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  is basically when you've borrowed money from
• 9:35
  your broker to invest, the market drops and the
• 9:38
  broker demands their cash back immediately. You
• 9:41
  have no choice but to liquidate whatever you
• 9:43
  can to raise cash. Exactly. And large investment
• 9:46
  funds face the exact same pressure when thousands
• 9:49
  of their clients hit the sell button at once.
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  Those are fund redentions. Oh, right. When individuals
• 9:54
  or institutions are forced to raise cash by Tuesday
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  morning, they do not sell what they want to sell.
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  They sell what they can sell. Meaning they sell
• 10:01
  the good stuff? Right. If an investor needs liquidity
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  to cover a catastrophic loss in, say, real estate
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  or speculative tech, they will sell their perfectly
• 10:10
  healthy blue -chip stocks or their gold simply
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  because those assets still have buyers. So the
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  selling pressure acts like a virus. It spreads
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  from the toxic troubled asset into completely
• 10:23
  unrelated structurally sound assets just because
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  of the massive demand for cash. You nailed it.
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  Now the second driver is pure sentiment. Under
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  normal conditions, investors rely on discounted
• 10:34
  cash flows to value a business. Meaning, they
• 10:37
  look at the company, project how much money it
• 10:39
  will make over the next decade, and calculate
• 10:42
  what that future cash is worth in today's dollars.
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  It's a rational, math -based approach. Right.
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  But in a genuine panic, rationality evaporates.
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  People just freak out. Completely. Investors
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  do not selectively evaluate the future cash flows
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  of the utility sector versus the retail sector.
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  The fear takes over and they just dump risk across
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  the board. They want out of the market entirely,
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  regardless of the underlying math. Sell everything,
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  ask questions later. Exactly. And what's the
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  third driver? Hidden shared exposures. You might
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  hold two businesses that look entirely unrelated
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  on paper. Perhaps a software company and an industrial
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  manufacturer. OK. Totally different industries.
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  Right. But when a crisis hits, you suddenly discover
• 11:22
  they both rely on the exact same frozen commercial
• 11:25
  credit market to make their payroll. Or they
• 11:29
  both rely on the same broken global supply chain
• 11:31
  for microchips. So their independence was an
• 11:35
  illusion. Completely. Yeah. The grim reality
• 11:37
  is that diversification manages ordinary day
• 11:41
  -to -day risk beautifully. but it manages extreme
• 11:44
  systemic risk considerably less. You know, you
• 11:47
  just mentioned hidden shared exposures ruining
• 11:49
  a portfolio in a crisis. That actually perfectly
• 11:51
  explains a massive blind spot we see in retail
• 11:54
  investing today. Oh, for sure. Yeah, if you look
• 11:56
  at the average Canadian investor, they think
• 11:57
  they are incredibly well diversified, but they
• 12:00
  are walking right into that exact hidden exposure
• 12:02
  trap. The Canadian portfolio is a textbook case
• 12:05
  of confusing the number of holdings with actual
• 12:07
  economic exposure. Well, the Canadian stock market
• 12:10
  index is inherently heavily concentrated. The
• 12:13
  vast majority of its total weight sits in just
• 12:15
  three sectors. Financials, energy and materials.
• 12:19
  Banks, oil and mining. Yep. And all three of
• 12:22
  those sectors are deeply tethered to the exact
• 12:25
  same macroeconomic forces. global commodity demand
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  and the domestic credit cycle. Okay. Energy and
• 12:32
  materials surge and crash with global industrial
• 12:35
  cycles. And the Canadian banks, they land heavily
• 12:38
  into the domestic real estate market and they
• 12:40
  lend massively into those exact same resource
• 12:42
  sectors. Let me pose a scenario here to show
• 12:45
  how easily someone falls for this illusion. Go
• 12:48
  for it. Let's say I decide to get extremely serious
• 12:50
  about managing my wealth. I go out and I hire
• 12:52
  five different highly credentialed portfolio
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  managers. I give them each 20 % of my net worth.
• 12:57
  OK, spreading it around. Manager A buys me a
• 13:00
  Canadian bank stock. Manager B puts me in a Canadian
• 13:03
  dividend -focused mutual fund. Manager C buys
• 13:06
  a broad Canadian equity ETF. Manager D buys a
• 13:10
  financial sector fund. I see where this is going.
• 13:13
  To me, sitting at home, that feels incredibly
• 13:15
  fortified. I have five different experts running
• 13:17
  different strategies, but if I actually pop the
• 13:20
  hood and look at what they bought, wait, they
• 13:23
  all just bought... the Royal Bank of Canada and
• 13:25
  the Canadian National Railway, didn't they? They
• 13:27
  absolutely bought the exact same mega cap stocks.
• 13:30
  You are paying five distinct management fees.
• 13:33
  You receive five different monthly statements,
• 13:35
  but you have not diversified your risk. You have
• 13:38
  only diversified who you are paying. That is
• 13:40
  brutal. It is. Holding a bank stock, a dividend
• 13:43
  fund and a broad Canadian index fund is substantially
• 13:45
  one single economic exposure. Adding a broad
• 13:48
  Canadian ETF to a portfolio that already holds
• 13:51
  Canadian bank stocks doesn't dilute your risk,
• 13:54
  it heavily reinforces it. So the obvious solution
• 13:56
  seems to be simply buying outside of the country,
• 13:59
  buying the S &P 500 or a global fund. But Canadians
• 14:03
  notoriously suffer from intense home bias. We
• 14:06
  prefer to buy the companies whose logos we see
• 14:08
  on our way to work. We do. And to achieve true
• 14:11
  diversification, A Canadian investor must look
• 14:14
  globally to capture exposure to vital sectors
• 14:17
  like technology or healthcare, which dominate
• 14:20
  the U .S. and global markets but represent a
• 14:23
  tiny fraction of the Canadian index. That said,
• 14:27
  we have to acknowledge that a calculated degree
• 14:29
  of home bias is actually highly rational. Oh,
• 14:32
  so it's not just blind patriotism keeping the
• 14:34
  money at home. There are structural advantages.
• 14:37
  Significant advantages. First is currency risk.
• 14:40
  Canadians pay their mortgages and buy their groceries
• 14:42
  in Canadian dollars. Makes sense. When you purchase
• 14:44
  a US or global fund, you introduce a new variable.
• 14:48
  If the U .S. dollar weakened significantly against
• 14:50
  the Canadian dollar, your foreign investments
• 14:53
  lose value in your local purchasing power, even
• 14:55
  if the underlying stocks actually went up. That's
• 14:58
  frustrating. And there are heavy tax incentives
• 15:00
  to stay domestic, right? Specifically, the Canadian
• 15:03
  dividend tax credit. Yes. If you are investing
• 15:06
  in a non -registered account, meaning money that
• 15:09
  is outside of a tax sheltered vehicle like an
• 15:11
  RRSP or a TFSA, the government provides a very
• 15:16
  real mathematical tax break for holding shares
• 15:19
  in domestic dividend paying Canadian corporations.
• 15:23
  So it lowers your overall tax burden compared
• 15:25
  to holding foreign dividend paying stocks. Exactly.
• 15:28
  OK. So keeping some money heavily biased toward
• 15:31
  Canada makes perfect sense for tax efficiency
• 15:33
  and currency. stability. Right. The problem is
• 15:35
  when people go way over their fees and hold 80
• 15:37
  or 90 percent of their wealth in domestic banks
• 15:39
  and energy. Yes, that is where it becomes dangerous.
• 15:43
  But as we dig into this, the ultimate hidden
• 15:45
  concentration risk isn't even hiding inside your
• 15:47
  brokerage account, is it? It's hiding in your
• 15:50
  everyday life. This is my favorite part of the
• 15:52
  diversification puzzle. When we zoom out to the
• 15:55
  macroeconomic picture, true diversification requires
• 15:57
  you to count your human capital, meaning your
• 16:00
  ability to earn an income through your job. Right.
• 16:02
  and your real estate, your primary residence,
• 16:05
  as massive, highly illiquid assets inside your
• 16:08
  total portfolio. I want you, the person listening
• 16:11
  right now, to mentally audit your own life balance
• 16:15
  sheet. Because when you sit down with a financial
• 16:17
  advisor, the standard risk tolerance questionnaires
• 16:20
  always ask about your feelings. Always. They
• 16:23
  say, if the stock market dropped 20 % tomorrow,
• 16:26
  would you sell everything, hold steady, or buy
• 16:29
  more? But they almost never ask the most critical
• 16:32
  mathematical question, what specific industry
• 16:36
  pays your salary? It is a staggering blind spot
• 16:39
  in personal finance. Yeah. Let's look at a regional
• 16:42
  example to see how this plays out. Imagine an
• 16:44
  engineer working in Alberta's energy sector.
• 16:47
  OK. Their income, their human capital, is entirely
• 16:50
  dependent on the global price of commodities.
• 16:53
  If their primary residence is in that same region,
• 16:56
  the value of their real estate is directly tied
• 16:58
  to the strength of the local economy. Which,
• 17:00
  again, depends on commodity prices. Precisely.
• 17:03
  And if they suffer from Canadian home bias, their
• 17:05
  stock portfolio is heavily weighted in domestic
• 17:08
  equities, which we just established is dominated
• 17:10
  by energy and the banks that lend to the energy
• 17:12
  sector. So the correlation across their entire
• 17:14
  life goes to one. When oil prices inevitably
• 17:17
  drop, the localized recession hits. They are
• 17:19
  laid off, severing their income. Their home value
• 17:22
  plummets at the exact moment they might need
• 17:24
  to sell or refinance to survive. And their retirement
• 17:27
  account tanks simultaneously. Exactly. They suffer
• 17:31
  three devastating compounding hits to their net
• 17:34
  worth at the exact same time. The watertight
• 17:37
  compartments on their ship all flood at once.
• 17:39
  That is the nightmare scenario. Now, contrast
• 17:42
  that engineer with a civil servant, a tenured
• 17:45
  teacher or a registered nurse. OK, totally different
• 17:48
  job profiles. Right. Their income is incredibly
• 17:51
  stable and practically entirely uncorrelated
• 17:54
  to the stock market or global commodity cycles.
• 17:57
  Because their human capital is so secure, they
• 17:59
  possess a much higher arithmetic capacity to
• 18:02
  take on equity risk in their investment portfolio
• 18:04
  compared to the corporate worker in a highly
• 18:06
  cyclical industry. Even if the teacher and the
• 18:08
  oil engineer have the exact same base salary
• 18:10
  and the exact same net worth on paper. Yes. Their
• 18:14
  balance sheets look identical. But their structural
• 18:17
  risk is entirely different. This highlights the
• 18:20
  crucial difference between risk tolerance, which
• 18:22
  is purely psychological, and risk capacity, which
• 18:25
  is cold, hard mathematics. So the teacher's secure
• 18:29
  paycheck acts like a massive high -grade bond
• 18:32
  anchoring their life. Exactly. Therefore, they
• 18:35
  have the mathematical capacity to hold a much
• 18:37
  more aggressive, volatile stock portfolio. While
• 18:41
  the worker in a cyclical industry already has
• 18:43
  massive built -in volatility in their life, their
• 18:46
  investment portfolio needs to act as a conservative
• 18:48
  counterbalance, not an amplifier. You've got
• 18:50
  it. So what does this all mean for us? When we
• 18:53
  pull together everything we've explored today
• 18:55
  from the hot sauce and lime juice math of imperfect
• 18:57
  correlation, to the hard limits of systematic
• 19:00
  risk, to the illusion of the Canadian home bias,
• 19:03
  and finally mapping out our own life balance
• 19:05
  sheet, it completely reframes the goal of investing.
• 19:08
  It leads to a very sobering fundamental truth.
• 19:11
  The purpose of diversification is never to maximize
• 19:14
  your returns. Never. By definition, a perfectly
• 19:18
  diversified portfolio will always, inevitably,
• 19:22
  underperform whatever the single best -performing
• 19:24
  asset was in any given year. Right. If tech stocks
• 19:27
  go on a massive tear, you will kick yourself
• 19:30
  for not having all your money in tech. Because
• 19:32
  to be diversified, you had to keep some of your
• 19:35
  money in international stocks that went down
• 19:37
  or bonds that just stood still. But that underperformance
• 19:40
  is the mandatory price of the free lunch. The
• 19:44
  true purpose of diversification is not optimization.
• 19:47
  Its primary directive is to ensure that your
• 19:50
  financial life remains survivable when you are
• 19:53
  wrong. Because you will be wrong. Over a 20,
• 19:55
  30 or 40 -year investing horizon, you will inevitably
• 19:59
  be wrong about something major. You will aggressively
• 20:01
  buy into the wrong sector right before it collapses.
• 20:04
  You will face a sudden localized recession that
• 20:07
  wipes out your industry. Or a global pandemic
• 20:09
  will rewrite the fundamental rules of the economy
• 20:11
  over a single weekend. Right. Diversification
• 20:14
  is the shock absorber that prevents those individual
• 20:16
  mistakes from becoming a fatal blow to your long
• 20:19
  -term wealth. That makes perfect sense. But I
• 20:21
  want to leave you with a final provocative thought
• 20:24
  to mull over. We've talked about building this
• 20:27
  delicate mathematical balance of diversification,
• 20:30
  but to actually maintain it over time, you were
• 20:34
  required to do something called rebalancing.
• 20:36
  Oh, yes. Rebalancing. Yeah. As the markets move,
• 20:39
  the assets that perform the best will naturally
• 20:41
  grow to take up a much larger percentage of your
• 20:44
  portfolio. Your tech stocks double in value,
• 20:47
  so suddenly they make up 60 % of your money instead
• 20:49
  of the 20 % you planned for. But your portfolio
• 20:51
  drifts. Exactly. To get back to your target mix,
• 20:55
  to keep the hot sauce and the lime juice perfectly
• 20:57
  proportioned to control the heat, you have to
• 21:00
  rebalance. Do you know what the actual mechanics
• 21:03
  of rebalancing require you to do? It's the hardest
• 21:06
  part of investing. It means repeatedly systematically
• 21:09
  selling your biggest winners to buy more of your
• 21:12
  biggest losers. It runs violently contrary to
• 21:15
  every evolutionary instinct we possess. You have
• 21:18
  to sell the exact asset that is making you rich
• 21:21
  and voluntarily pour that cash into the very
• 21:23
  asset that is dragging your portfolio down. Does
• 21:27
  human psychology naturally prevent us from maintaining
• 21:29
  the very free lunch we try to build? It demands
• 21:31
  an incredible amount of discipline to let the
• 21:33
  math overrule the emotion. It really does. Until
• 21:36
  next time, take a hard look at the true exposures
• 21:39
  in your own life balance sheet. Keep digging.