Diversification: Why is it very important in the volatile markets

Current market context

Though equity market has recovered from post Budget lows after India and United States agreed on a Trade Deal, which lowered tariffs imposed by the US on Indian exports. However, market continues to be volatile due to geo-political tensions, uncertainty about policies of the nominee of the next Fed Chairman, change in monetary policy in Japan affecting global fund flows, and fears of AI led disruption, especially in the IT industry. In current market conditions diversification across asset classes and sub-classes can provide stability to your portfolio. Even from a longer term perspective asset allocation and diversification balances risks / returns and helps investors achieve their financial goals.

Diversification across asset classes

Winners rotate across asset classes (see chart). Certain asset classes outperform in market phases, where other asset classes underperform. Traditional asset allocation focused on equity and debt, but multi asset allocation can provide richer diversification and generate potential superior portfolio risk adjusted returns. Multi Asset Allocation Funds can provide you tax efficient exposure to multiple asset classes in a single fund.

Source: Advisorkhoj Research, NSE, MCX, Bloomberg, as on 20.02.2026. Equity is represented by Nifty 50 TRI, debt by Nifty 10 year benchmark G-Sec Index, Gold by MCX spot prices and International by S&P 500 Index in INR

Diversification across market cap segments

Within equity as an asset class, winners rotate across market cap segments (see the chart below). Small and midcaps tend to outperform in certain market phases e.g. bull markets, while large caps tend to outperform in bear markets or sideways (rangebound markets). You should diversify your equity allocation across large, mid and small caps according to your risk appetite.

Source: Advisorkhoj Research, NSE, as on 31.12.2026. Large cap is represented by Nifty 100 TRI, Midcap by Nifty Midcap 150 TRI and Small Cap Nifty Small Cap 250 TRI.

Diversification among sectors

Like market cap segments, winners also rotate across industry sectors (see the table below). Diversified equity funds provide you exposure to a diversified portfolio of stocks across industry sectors.

Source: Advisorkhoj Research, NSE, as on 20.12.2026

Winners rotate among international markets

The chart below shows the calendar year US returns of different international markets for the last 10 years. You can see that winners rotate across markets too. Over exposure to a single international market may increase portfolio risks and impact returns in adverse market cycles.

Source: Advisorkhoj Research, MSCI, as on 31.12.2025. US is represented by MSCI USA (USD), Europe by MSCI Europe (USD), Japan by MSCI Japan (USD), China by MSCI China (USD) and Emerging markets by MSCI EM (USD)

Gold and silver returns can show divergence

Within commodities, gold and silver returns have strong positive correlation since both are precious metals and safe haven assets. However, silver tends to outperform gold in periods of economic recovery or expansion. This is due to industrial demand for silver. You can get exposure to both precious metals through multi asset allocation funds or gold and silver ETF FOFs.

Source: Advisorkhoj Research, MCX, as on 20.12.2026

Importance of rebalancing

While asset allocation is important, rebalancing your asset allocation is equally important. This is because asset prices of different asset classes increases / decreases at different rates. The chart below shows how the asset allocation of a porfolio with 50% allocation to equity and 50% allocation to debt, changed in the last 10 years without rebalancing. Even though you started with allocation of 50:50 in equity and debt, after 10 years (without rebalancing) the asset allocation would get skewed towards reaching 66% equity and 34% debt, changing the risk profile of your portfolio. Hybrid funds provide the benefit of rebalancing without incidence of taxation events for investors.

Source: Advisorkhoj Research, NSE, MCX, as on 31.12.2026. Equity is represented by Nifty 50 TRI, debt by Nifty 10 year benchmark G-Sec Index.

Hybrid funds for your asset allocation needs

Hybrid funds can provide a range of asset allocation solution for investors with different risk appetites and investment needs. You should select a fund based on your risk appetite. Consult your financial advisor or mutual fund distributor if you need help in selecting hybrid funds that are suited to your risk profile.

Conclusion

In this article, we have discussed the importance of diversification. Trajectory of asset prices in the last 12 - 15 months shows that asset allocation is important. While equities were volatile, gold and silver had a spectacular rally. However, the planning and discipline is of utmost importance in asset allocation. Investors who went overboard investing in Silver ETFs for making short term gains, had their hands burnt when silver prices crashed in early February 2026. Your asset allocation should be based on your risk appetite and financial goals. You should remain disciplined and rebalance your asset from time to time. Consult with your financial advisor or mutual fund distributor if you need help in asset allocation.