Tree species diversity in forest ecosystems could reduce their vulnerability to extreme droughts through reduced belowground competition for water. However, little is known about the seasonal dynamics of belowground water uptake that determine whether diversity positively or negatively impacts tree carbon and water exchange. Using a network of 30 permanent plots in Mediterranean forests with increasing tree species diversity (from monospecific to four-species mixtures), we examined the seasonal patterns of in-situ aboveground and belowground carbon and water relations on trees from four pine and oak species over two years using hydraulic and stable isotope approaches. We found that increasing functional diversity induced strong soil water source partitioning between oak and pine species. As conditions became drier during the summer, oak species took up water from deeper soil sources, while pines were systematically limited to shallow ones. Despite significant belowground moisture partitioning in mixed forests, drought-induced reductions in photosynthesis, stomatal conductance, leaf water potential, and stomatal regulation were still enhanced compared to monospecific stands for pines but with some benefits for oaks. Our findings reveal that reduced competition for water in more diverse ecosystems is insufficient to buffer the adverse impacts of severe droughts on aboveground carbon and water use.