quantext:

Hi Heaths:

 I get your point and I think that I can articulate it in a simple way.  You're argument could be made like this: Bonds show a consistent near-zero correlation to stocks and the standard deviation in returns for bonds is low.  You have confidence, that both of these facts will hold up.  On the other hand, you are concerned that combining riskier (but low correlation) stocks to achieve the same effect is somehow inherently riskier because of forward estimation error for SD and correlations.  This is an interesting question and goes deeply to assumptions about the statistical 'stationarity' of the world--and financial statistics in particular.  This also goes to Nassim Taleb's arguments that we tend to think we know more than we do. 

Personally, I believe in the efficiency of markets on long time horizons--as does John Bogle, Swensen, Buffett, etc.  We could all be wrong.  People who want to be engaged at this level will need to study very hard and choose their degree of faith in our knowledge--and this actually relates to a myriad of issues like population, global food and water shortages, climate change, peak oil, etc.  How much can we really know about the future?  My perspective is that quantitative models can provide a consistent and objective way to look at markets and weigh alternatives.  These models have limitations--the map is not the territory.  That said, history has shown clearly that investors' bigest enemies are (1) emotionally chasing performance, and (2) ignoring diversification---the average investor errs on the far opposite end of the spectrum. 

Geoff

 

Thanks Geoff

 

You accurately articulated my point, and I do not disagree with the points you made in your second paragraph.  However, I don’t think that you fully responded to my question.  Let me ask it simply: do you agree that the 80-20 portfolio is riskier than the 60-40 portfolio despite identical SD’s computed by QPP?  For discussion purposes, assume a retiree whose financial situation will be harmed by a substantial drop in value.

 

Hi Geoff- Keep up the good work. It's an interesting discussion even though some of us have nothing to add.

Fascinating thread, please keep it going.

Norm 

 

Here is a quote from Supercharge that discusses use and selection of individual stocks.

 

While you might have hit upon the investment idea of the century, there’s also the very lively possibility that you have uncovered a specious statistical concatenation that will unravel and take you and your money with it.  If your overall portfolio doesn’t broadly access the returns of global capital markets, you’re proceeding down a road less traveled that may not take you where you want to go.  If you can’t see a convincing rationale why your portfolio makes sense, don’t do it….  Do not invest in things you do not understand…

 

In other words if you’re going to invest in individual stocks, make sure that you are investing in good stocks that you understand.  Does this mean that the MCS has less importance than stock picking?  Many of us fear that we do not have the requisite stock picking skills.  How much weight should one give to the MCS and how much to stock picking?  How does statistical 'stationarity' apply here?

Hi All-

Two observations. A few months ago, I solicited proposals from different folks -my bank, financial planners and some brokierage houses like Merrill. Rach were given the same time horizon, risk tolerance, etc. They all came back with asset allocation models based on Monte Carlo simulations ... and no two were alike.

 As someone in this post pointed out, GIGO. How do you figure out which Monte Carlo analysis is the best one?? I don't know. I ended up ignoring the recommendations.

Second observation. Asset allocation is necessary but not sufficient. My arugment is that when Swenson decides to allocation 20% of the Yale porftolio to market neutral managers or real asset managers, he can pay big bucks to some outstanding managers to execute the strategy.

Asset allocation alone is no formula for succes. It has to be combined with effective management. Does anyone believe Swenson would have gotten the results he has achieved if he had mediocre people managing his funds?

Best,

Ed

 

This is slightly off point but the reference to Buffet triggered the thought that the Oracle of Omaha is sort of contradictory in his statements.

He has gone on record at numerous times saying his own performance refutes the notion of an efficient market theory. He could not have compounded his money at 30% per annum as he did early in his career if it were true.

At the same time he doesn't believe that ordinary investors can or should be picking individual stocks and they would do better to hold low cost index funds.

Isn't the true moral that individual investors should be investing with people like Buffet who have proven track records of being successful with concentrated portfolios? I know Buffet himself thinks diversification is only good if you don't know what you're doing.

oldowl:

Asset allocation alone is no formula for succes. It has to be combined with effective management. Does anyone believe Swenson would have gotten the results he has achieved if he had mediocre people managing his funds?

Hi Ed,

This would be an Active -vs.- Passive debate.

I have created a few threads to discuss this,

Active vs. Managed,

http://socialize.morningstar.com/NewSocialize/forums/thread/2483662.aspxhttp://socialize.morningstar.com/NewSocialize/forums/thread/2483662.aspx

Why Indexing,

http://socialize.morningstar.com/NewSocialize/forums/1/2493113/ShowThread.aspx?mrr=1204482905

The following 3 are from one conversation,

http://socialize.morningstar.com/NewSocialize/blogs/chinwhisker/2508009/post.aspx

Asset Allocation,

Choosing funds, fixed and taxable,

Choosing funds, stocks,

I'd be more than happy to hear your thoughts on any of them. Just reply to the conversation you disagree with.

Chin

quantext:

Hi all:

 BTW, I noticed that the 'votes' on this thread are not very high.  I thought that there would be more interest in this topic.  If you want to see this thread continue, please vote to the positive (or vice versa). 

Regards,