April 19, 2013
By Steve Blumenthal
On portfolio construction – Engineering Targeted Returns and Risks – Ray Dalio explains how to structure a portfolio that targets a 10% return with a 10-12% risk
“Most investors have backed into a mix dominated by betas, especially equities. Because the money allocated to an asset class typically determines the type of active manager chosen, the heavy commitment to equities typically results in alpha being dominated by equity managers. Therefore, the portfolio derived via a traditional approach typically exhibits much greater beta risk than alpha risk (generally about 95%/5%), its overall beta is dominated by equities (that is, the typical pension fund is 95% correlated with equities) and its alpha is dominated by equity managers. This is anything but a diversified portfolio.”
“If you select alphas well, however, you can create a much better portfolio of them than of betas because you have many more, less correlated, more attractive return streams to combine into an efficient portfolio.”
www.bridgewater.com Click on Research & Press and then click on The All Weather Strategy – some great insight on portfolio construction.
Reinhart-Rogoff Excel spreadsheet error and continued problems in the EU
The problem: too much debt and unfunded liabilities. The world spends more than it is taking in and the imbalance is far from fixed. It is a global imbalance that, unfortunately, finds the entire developed world stuck in the same sink hole at the same time. The solution requires the restructure of a number of really bad looking balance sheets. Both deflation and inflation are the risks – both are bad.
Today, deflation is winning. In a few short years it will likely be inflation. The solution is a mix of currency creation (inflationary) and tax and austerity (both deflationary). Balancing the mix is nearly impossible. A period of choppy to sideways equity markets remain while the mother of all bubbles grows – the great bond bubble.
I’ve read a lot this week about the Reinhart-Rogoff Excel spreadsheet error including their response to the error. Highly regarded, they have handled themselves in a transparent, honest and professional way. At the core of their response is that the error doesn’t change the message. Excessively high debt slows growth from the 3.2% we have achieved historically to 2.2% as predicted in their models. Note that over the last ten years, GDP growth was 1.9% in the U.S.
In the following piece, Ambrose Evans-Pritchard comments on the spreadsheet error and then zeroes in on Germany. “The Merkel government is imposing grievously ill-judged levels of austerity on half of Europe, and pushing the whole EMU bloc deeper into a contractionary spiral.” Slow growth there impacts growth here at home.
Nine Things Successful People Do Differently by Heidi Grant Halvorson
In order of effect magnitude, the most impactful strategies were:
- Have Grit — Persistence over the long haul is key
- Know Exactly How Far You Have Left to Go — Monitor your progress
- Get Specific — Have a crystal-clear idea of exactly what success will look like
- Seize the Moment to Act on Your Goals — Know in advance what you will do, and when and where you will do it
- Focus on What You Will Do, Not What You Won’t Do — Instead of focusing on bad habits, it’s more effective to replace them with better ones
- Build your Willpower Muscle — If you don’t have enough willpower, you can get more using it
- Focus on Getting Better, Rather than Being Good — Think about your goals as opportunities to improve, rather than to prove yourself
- Be a Realistic Optimist — Visualize how you will make success happen by overcoming obstacles
- Don’t Tempt Fate — No one has willpower all the time, so don’t push your luck
Based on the Investor Behavior studies I have reviewed and, frankly, 30 years of client experience, number one “Have Grit” might just be the most important key to success for investors. The path to investment success can be bumpy and the emotional tendency to chase in and out of stocks and bonds (just after a good period, of course) seems to lack grit.
I’m with Dalio, “If you select alphas well, however, you can create a much better portfolio of them than of betas because you have many more, less correlated, more attractive return streams to combine into an efficient portfolio.” Might just help muscle up an investor’s persistence to stay the course.
Beta – is simply the return the equity market gives
Alpha – is a return above the beta but is typically harder to achieve
Have a great weekend!
With warm regards,
Steve
Stephen B. Blumenthal
Founder & CEO
Philadelphia Office – King of Prussia, PA
CMG Capital Management Group, Inc.
steve@cmgwealth.com
610-989-9090 Phone
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