Geoff Considine

Tactical Asset Allocation, Part II

Oleg:

QPP uses three years of data to initialize the model as the baseline input--but projections have been extensively tested out of sample over decades. Black Swans may exist that defy the model---no one did well with 9/11 or 1987 crash---fair points. I have written about testing for extreme tails in a range of articles if you are interested.

Why Volatility and Beta Matter

I wonder if The Motley Fool has published a retraction or a Mea Culpa?

finance.yahoo.com/echa...;range=1y;compare=ivv+...

Yes, Beta and volatility matter. Just ask people who invested in Morgan Stanley!

What Is Diversification Worth?

To Montag:

Ahh--but perhaps you have missed my point. I consider Warren Buffett's portfolio to be well diversified. I analyzed top Berkshire holdings using Monte Carlo and the model showed that Berkshire is well diversified. When Buffett talks about diversification he is talking about the 'buying everything' school of diversification. Smater diversification is quite different:

seekingalpha.com/artic...

You can be well-diversified and concentrated--this is not a contradiction in terms. Diversification does not, by any real definition, mean buying some of everything. Diversification means having a portfolio in which the parts exhibit low enough correlation that you can extract more return for a given level of risk than you can with the individual parts. This does not require hundreds of holdings.

Monte Carlo Analysis of Major Berkshire Hathaway Holdings

Buffett's holdings exhibit very low correlation between them. I found GSK because it is low Beta, large cap, reasonable risk, and low R^2. Once I had gone throught this process, I tested in GSK in my total portfolio, looked at financials, and various valuation metrics. Then BRK disclosed they bought it in Q4 of 07. The yield was high (6% or so). QPP liked GSK and I bought it for less than Warren Buffett did and I got a 6% yield or so. Not bad.

Monte Carlo Analysis of Major Berkshire Hathaway Holdings

Roger:

IMHO, really low allocations don't make sense. If you don't know enough to want to own more than 1-2%, why not just buy something in its sector index via an ETF?

I have found the Monte Carlo analysis of Buffett really interesting ever since I did it--and this is ongoing. I have found more and more instances in which QPP and Buffett like the same things. Recently, this was the case with GSK.

Geoff

Monte Carlo Analysis of Major Berkshire Hathaway Holdings

To User 173687:

To answer the question of why analyzing the ticker for the a fund might give different results than anayzing the individual holdings, please see this article:

seekingalpha.com/artic...

Geoff

What Is Diversification Worth?

Smart ETF:

First, QPP is non-stationary--which is really important. Second, I hope that you forwarded your insightful comments to David Swensen at Yale, Ray Dalio at Bridegwater, and Ibbotson. I am sure that all of these leading firms will gain value from your insights. BTW, you never mention that Mandelbroit himself has said that his methods are not ready for operational use.

If you can prove the superiority of your approach, just do it--and post your articles to SA, but its is not useful to say that you can do it without showing anything for support.

What Is Diversification Worth?

To Gale Whitaker:

Your points are addressed in my article her on SA called Black Swans, Portfolio Theory, and Market Timing. Quite to the contrary of what you have said:

1) Market timing costs investors on average 2.5% per year (see DALBAR, for example)

2) People like David Swensen and Warren Buffett have delivered the most consistent risk adjusted returns we have records for and they believe in strategic diversification.

3) A solid diversification strategy does not incur high brokerage / transaction fees--but trying to time the market sure does. There is abundant data that the more, on average, people trade, the worse their results.

4) Actually, a well diversified portfolio has helped many portfolios to reduce losses substantially in this market, without incurring taxable events or transaction fees.

There are all these books on timing strategies for retail investors and they are in opposition to the solid research that institutions use. Hmm.

diversification does not mean simply "buy and hold"---read the article I refer to above.

Regards,

Geoff

What Is Diversification Worth?

To robohogs/jon:

The fundamental weighting issue is not the only reason that portfolios of individual stocks can be better--there are other important features of individual stocks, as I have shown in a range of my analysis. This remains a controversial topic among financial theorists.

QPP suggests that Buffett's highly concentrated portfolio of individual stocks is more diversified than many portfolios which employe massive diversification via index funds. This goes to one of my axioms: if your investing theory suggests Buffett is wrong, your theory is probably wrong.

Diversification can be statistically measured and its not just about buyign lots of individual holdings. This is considered common sense among the high end of institutional investors (as shown here) but this idea is radical for most individual investors and even for many advisors.

Why Volatility and Beta Matter

Beta measures the degree to which the market drives return---but it is a tendency and the strength of the tendency is also determined by R^2. Beta is not, strictly speaking, a measure of volatility--it is a measure of the degree to which something follows the market. Mr. Hanson's point that these high Beta stocks have done really well in a 12-month period when the market has rallied is meaningless--we fully expect that high-Beta stocks will have high returns when the market has been going up. I am not saying that you can predict market direction--I am saying that his observation just doesn't tell us anything. If you COULD predict market direction, you would want want high Beta in a rising market, etc. as you indicate---but I am not in any way advocating such a thing.

Why Volatility and Beta Matter

Hi FIG:

In the case of JNPR, this was an anecdote. In the case of analyzing Buffett's equity holdings using a quantitative portfolio tool and finding that the tool and Buffett agree on what makes a good portfolio, no tweaking was used--all default inputs on a tool that is used by many users. My analysis has been supported by work that followed by two other experts---I'd be happy to refer you if you wish. A good portfolio tool using quantitative methods is actually in very good agreement with Mr. Buffett, even coming from different angles. There is no proof in my article--I agree with that. This article shows a few examples. There is no proof in investing theory anywhere.

Why Volatility and Beta Matter

To make this whole story even more bizarre, this article was just posted on The Motley Fool:

www.fool.com/personal-...

This article is by Tim Hanson, the same guy who told us to ignore volatility, but this one says that you need to avoid things that are too risky...um, volatile...have Betas that are too high, etc.

Why Volatility and Beta Matter

Hi Jordan (part 2):

Also, neither QPP nor Mr. Buffett would have thought that JNPR looked like a great deal at $100---I think that Warren Buffett inherently balances risk considerations in his portfolio management. I don't know how he does it because he eschews quantitative methods, but BRK's holdings look great in QPP, as I mentioned.

Why Volatility and Beta Matter

Hi Jordan:

First, one of the problems with the word 'risk' is that it means different things for different people. Volatility equates to risk if you cannot get a decent return over your investing horizon. MBA's probably think of risk differently from many individual investors--you are correct. Volatility aligns with risk when you have some chance of needing your money when your portfolio is not in a good position. If you are saying that you think of risk only as default risk (permanent loss of capital--as you say above), they are actually still related. If you read about the methodology of credit ratings in modern practice, volatility and default risk are related.

Second, I am a Buffett fan (Warren and Jimmy, actually). Mr. Buffett (Warren) unfairly discounts Beta and volatility as meaningful metrics--that is my point. A big decline in price may have a positive, negative, or even no impact on volatility.

Foreign Investing and Diversification Lessons From Berkshire Hathaway

Mr. Buffett has just doubled the holdings of JNJ in BRK! This is consistent with the themes discussed in this article. JNJ has delivered anemic returns over the past year or so but the diversification value is huge.