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Asset Allocation and Avoiding the Crash

Are there any "mechanical" processes that could have enabled investors to dodge the crash? Probably not.

Too many investment strategies take an "agnostic" view of the world. Long Term Capital was a case in point. That is, they naively assume that the future will be much like the (usually) recent past, and "backtest" strategies that would have worked in such a hypothetical past.

But in order to avoid crashes, you have to play down the "known" past, and focus on the unknown future. Specifically, you have allow for a crash in your calculations. then you'd have to form a picture of what one would look like.

A minority of people did foresee the crash, we among them. We had to ignore all the good news and rosy forecasts, and assurances from high public officials that everyhting was fine. We looked for :"flies in the ointment," like excesses of debt to equity and income, and loose lending practices. In a future post, we will discuss specifics of our model.