There is no such thing as perfectly independent assets.
Except for cash (and equivalents), of course, which are perfectly neutral.
There is always, always, always invisible correlation going on the background.
You must always be ready for the situation when all assets go down together, in unison.
This is why it is crucial to have a margin of safety, and why having cash on hand is so important.
The invisible correlation between assets is often abstracted away as “market risk” or “systemic risk”.
But market risk is merely the emergent property resulting from this invisible correlation.
We call it market risk because the underlying correlations were invisible to us.
When the financial system is stressed, correlations go extreme (1 or -1) because people who levered up a portfolio of seemingly uncorrelated assets will all mark down their portfolio values (and thus be forced to lever down) at the same time.
On the other hand, when one industry is stressed, correlations (in that industry) may go flat as it becomes more zero-sum in nature.
Quotes:
“When times get very tough, everything is correlated. And people need to sell whatever they have. And they sell what’s most liquid. So even the baby gets, you know, baby gets thrown out with the bathwater.”
— Bruce Berkowitz
"As the old saying goes, in times of crisis all correlations go to one and everything collapses in unison."
— Howard Marks
Thanks for reading. Tell your friends.