Mixed-species forests are promoted as a forest management strategy for climate change adaptation, but whether they are more resistant to drought than monospecific forests remains contested. In particular, the trait-based mechanisms driving the role of tree diversity under drought remain elusive. Using tree cores from a large-scale biodiversity experiment, we investigated tree growth and physiological stress responses (i.e. increase in wood carbon isotopic ratio; d13C) to changes in climate-induced water availability (wet to dry years) along gradients in neighbourhood tree species richness and drought-tolerance traits. We hypothesized that neighbourhood species richness increases growth and decreases d13C and that these relationships are modulated by the abiotic (i.e. climatic conditions) and the biotic context. We characterised the biotic context using drought-tolerance traits of focal trees and their neighbours. These traits are related to cavitation resistance versus resource acquisition and stomatal control. Tree growth increased with neighbourhood species richness. However, we did not observe a universal relief of water stress in species-rich neighbourhoods. The effects of neighbourhood species richness and climate on growth and d13C were modulated by the traits of focal trees and the traits of their neighbours. At either end of each drought-tolerance gradient, species responded in opposing directions during dry and wet years. We show that species' drought-tolerance traits can explain the strength and nature of biodiversity–ecosystem functioning relationships in experimental tree communities experiencing drought. Mixing tree species can increase growth but may not universally relieve drought stress.