Concerned About Market Volatility? Build A Fortress Through Diversification — The Daily Upside

In his role as State Street’s Head of SPDR® Americas Research, Matthew Bartolini has a deep perspective on the state of markets, and how investors can position their portfolios in various market conditions. In our interview with Matthew, we discuss some practical things investors should have in mind during these turbulent times, the importance of looking to the long term, and some actionable ways to diversify. Read our conversation with Matthew below:

Q: There is this notion that stocks tend to climb a wall of worry. How worried do you think the market is right now, and how do you think that will shape market performance going forward?

A: At this moment investors’ nerves are frayed. The chaotic nature of the paradigm shift in global macroeconomic policies had led to broad-based uncertainty. And this extreme uncertainty has created both angst and anxiety.

However, we need to make sure that we are framing this short-term volatility and sizeable uncertainty against the larger picture of long-term asset returns.

While there can be short-term periods of negative returns, and they can be hard to endure, having a long-term view can be more valuable. Considering that, over the long-term equities outperform cash due to the risk premium of departing with the safety of and liquidity of cash. And this risk premium would not be earned without these periods of short-term pain.

Q: What are some things that keep you up at night (as an investor)?

A: As an investor, I often wonder if there is more that I can be doing within my portfolio. I question the opportunity sets that are out there for my portfolio and wonder if there are potentially better opportunities that I could pursue.

At the end of the day, when I examine the root of my concerns, I find myself left with one question — will the assets that I hold earn a reliable return stream? When I think about asset returns, I recognize that over one, three, and five year periods, it’s impossible to predict which asset will perform the best, and with the frenetic state of the news cycle, it’s even impossible to make this prediction on a weekly basis.

With all this in mind, I will say I find it easy to get right back to sleep by acknowledging that amid all my concerns, I can be assured knowing that my well-diversified portfolio, balanced across asset classes, will be a style that transcends generations.

Q: European equity markets outperformed US equity markets by double digits in the first quarter of 2025. How do you see that evolving going forward? Is American exceptionalism over?

A: As it stands now, there is a stark paradigm shift underway. And it does portend to a reduction in US asset exceptionalism. Back in November, I shared some thoughts on the drivers of US outperformance against the rest of the world; I highlighted accelerated earnings per share growth, improving profit margins, cleaner balance sheets, global expansion, and increased productivity/efficiency that all coincided with the strong returns in US equities.

In that piece, I also noted there are points that could tip the scales against the US with these points being extreme valuations, less capital flow, and as I put it then, “something we don’t know about yet,” where I highlighted policy mistakes, deglobalization resulting in less non-US sales by US firms, and US-centric crisis to name a few.

We are currently at an inflection point where US valuations remain heightened in the face of a lower growth environment and very US-centric, massive policy changes that threaten to reduce non-US revenue for US firms as well as less foreign capital flow into the US by foreign investors.

These factors alongside less constrained central bank policy makers have led to an impairment of the foundations propping up those historical dynamics that had helped US assets outperform the rest of the world.

Q: Diversification is a real basic principal facet of investing, but how should investors think about it in 2025? So much of broader market gains have come from such a small number of stocks – where does that leave us? Is this a time for stock pickers to pick heroes, or is it simply too hard to predict?

A: It’s worth starting this answer with some observations that I have on the US ETF market and the US investor. First, when we look at the US-listed ETF market, we see that there is a heavy concentration of capital in equities and within US equity exposures. That’s not really diversified even if it has been the winning trade for investors to make over the last decade.

With this in mind I think that now, more than ever, is a time for investors to seriously think about the importance of diversification. The ideal diversified portfolio should be diversified not only amongst asset classes, but also across geographies and also be diversified across economic environments.

The ability to predict which asset class will be the hero is near impossible and doing so on an individual security level is even harder. Between 2004 and 2024, we observe that the percentage of S&P 500® stocks that underperform the sector average by more than 10% is roughly 34% and the percentage that outperform the sector average by more than 10% is only 29%.¹ Meaning that is more likely than not, the stock you pick will underperform its own sector’s average than outperform — and by a wide margin.

These numbers are further supported by S&P’s SPIVA analysis that shows on a 10- and 15-year basis — 84% and 89% of actively managed large-cap funds have underperformed the S&P 500!²

With all this in mind, my final point here is that we favor diversification across ALL aspects of a portfolio — assets, sectors, geographies, and economic vulnerabilities.

Q: Talk to us about SPY. It was the first US-listed ETF to hit the market over three decades ago. It may seem pretty simple on the outside, but there was (and still is) a lot of innovation packed in there. Talk to us about what SPY is and what it represents for investors.

A: SPY is the representation of the operational benefits ETFs have to offer. ETFs, notably SPY, brought a new level of transparency to the financial industry through daily holdings filings that represented a huge shift away from the monthly/quarterly filings that mutual funds operate on.

ETFs also offer a cost-efficient and liquid way for one click single-stock diversification on an intraday basis. And in the case of SPY, with one click, you can own the entire S&P 500.

However, the real allure of the ETF lies in its tax efficiency; without getting too deep into the weeds on the in-kind creation/redemption process of the ETF, it limits the potential for a fund to distribute capital gains. And there is data to back that up.

Comparing ETFs against mutual funds, we find that in 2024 just 5% of ETFs paid capital gains compared to 43% of mutual funds.³ This stat holds true over time, as on a 10-year average, we note that 8% of ETFs have paid capital gains compared to 53% of mutual funds paying capital gains.⁴

Now in the case of SPY, there has been no capital gains distribution since 1996!⁵ The tax efficiency alone should be proof enough for the potential benefits that the ETF has over other investment types.

Q: A lot of folks predict more volatility ahead — how would you think about building a portfolio from the ground up today?

A: Folks can predict volatility, but being right about it is a different story. And if you are right about selecting the right asset, to shield against it is even more difficult. This past April showed us that, given US Treasurys fell alongside US equities and did not act as the natural “diversifier” they are perceived to be.

Instead, we encourage investors to prepare for volatility. Building a portfolio from the ground up should consider the asset classes’ relationships to different economic environments centered around a combination of growth and inflation.

Ensuring portfolios are properly balanced and diversified can help navigate the wide range of outcomes investors face — not just today but over the long term — while earning the premium on assets without having to predict the winner ahead of time.

Discover more about SPY.

Footnotes:

_{¹Source: State Street Global Advisors, FactSet, January 2004 – December 2024. Past performance is not a reliable indicator of future performance. The index returns are unmanaged and do not reflect the deduction of any fees or expenses. The index returns reflect all items of income, gain and loss and the reinvestment of dividends and other income. It is not possible to invest in an index.
² Source: S&P Global as of December 31, 2024. Past performance is not a reliable indicator of future performance.}

_{³ Source: Morningstar Direct as of December 31, 2024.
⁴ Source: Morningstar Direct as of December 31, 2024.
⁵ Source: Bloomberg Finance L.P., as of April 30, 2025.}

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_{Investing involves risk including the risk of loss of principal.}

_{ETFs trade like stocks, are subject to investment risk, fluctuate in market value and may trade at prices above or below the ETFs net asset value. Brokerage commissions and ETF expenses will reduce returns.}

_{The S&P 500® Index is a product of S&P Dow Jones Indices LLC or its affiliates (“S&P DJI”) and have been licensed for use by State Street Global Advisors. S&P®, SPDR®, S&P 500®,US 500 and the 500 are trademarks of Standard & Poor’s Financial Services LLC (“S&P”); Dow Jones® is a registered trademark of Dow Jones Trademark Holdings LLC (“Dow Jones”) and has been licensed for use by S&P Dow Jones Indices; and these trademarks have been licensed for use by S&P DJI and sublicensed for certain purposes by State Street Global Advisors. The fund is not sponsored, endorsed, sold or promoted by S&P DJI, Dow Jones, S&P, their respective affiliates, and none of such parties make any representation regarding the advisability of investing in such product(s) nor do they have any liability for any errors, omissions, or interruptions of these indices.}

_{The views expressed in this material are the views of Matthew Bartolini, Matthew Polidoro through the period ended May 1, 2025 and are subject to change based on market and other conditions. This document contains certain statements that may be deemed forward-looking statements. Please note that any such statements are not guarantees of any future performance and actual results or developments may differ materially from those projected.}

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