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10 Themes - #9: Diversification today
17/11/2025
Planning scenarios, managing risks and seizing opportunities
There are many reasons now to pay more attention to diversification in asset allocation – and to redefine it. While the current market environment appears constructive, increased risks mean it is important to plan scenarios and identify diversification opportunities that may be path-dependent rather than universal.
Overall, the capital markets appear relatively stable: Goldilocks is still in place. And there are many indications that this environment could continue into the new year. Most central banks currently remain supportive, and the global economy is showing signs of acceleration. In such an environment, risk assets might be boosted once again.
However, despite the current positive outlook, the environment is by no means free of risks. A second wave of inflation or a global recession caused by tariffs remain potential risks. In the case of equities, valuations in individual segments appear high but not yet irrational in our view. Provided earnings and investments remain supportive and structural drivers such as artificial intelligence (AI) remain intact, there may still be room for the market to rise, even if tail risks are increasing. Uncertainties about U.S. tariff policy, the independence of the U.S. Federal Reserve and political instability in Europe could trigger volatility. Risk compensation appears low for corporate bonds, while valuation and liquidity risks could become more apparent in private markets.
Diversification is key
*Based on DWS Long View[1]
This information is subject to change at any time, based upon economic, market and other considerations and should not be construed as a recommendation. Past performance is not indicative of future returns. Forecasts are based on assumptions, estimates, opinions and hypo-thetical models that may prove to be incorrect. Alternative investments may be speculative and involve significant risks including illiquidity, heightened potential for loss and lack of transparency. Alternatives are not suitable for all clients. Source: DWS Investment GmbH.
Therefore, diversification is more important than ever. Traditional diversification across regions and asset classes alone may no longer be enough. Today, diversification should be considered in terms of scenarios. Which investments might mitigate downside risk in a portfolio if a stock market bubble were to burst? Which investments could help if inflation proved surprisingly strong or doubts about countries' debt sustainability deepened? “Not every diversifier works in the same way in every scenario,” explains Peter Warken, Co-Head of Allocation at DWS. “The key is to build a robust portfolio and have a plan for different scenarios.”
European small caps, for instance, may help mitigate equity concentration risks and could benefit from the German infrastructure program and improved growth in the Eurozone. For diversification via structural alpha themes, focusing on infrastructure, cheaper AI names accessed via Asian tech stocks and reviving European assets could be promising. In corporate bonds, the robust fundamentals of EUR investment grade relative to U.S. counterparts appear favorable for European investors, who also benefit from the absence of currency hedging costs, whereas U.S. investors should account for potential currency risk and associated hedging expenses.
Gold seems to remain an effective diversifier but is not a panacea. It may be particularly effective for those concerned about high government debt and political uncertainty, and keen to shift away from U.S. assets. But caution is advised in the short term given the degree to which the gold price has risen, notwithstanding its recent small correction. In the event of a stock market crash, government bonds might offer better initial risk management as gold might initially sell off. The dollar, on the other hand, has seemingly lost its classic diversification role for the time being.
We think that there is a good chance that the Goldilocks phase will continue into 2026, which could favor equities and high-quality corporate bonds, supplemented by a scenario-based diversification strategy. Peter Warken summarizes, “Those who consistently follow this diversification principle may create stability and potentially also open up opportunities in a complex market environment.”
10 Themes - #9: Diversification today
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