jmorace

Tactical Asset Allocation, Part I

That's IIH......

Tactical Asset Allocation, Part I

Hi Goeff,

Another interesting and informative piece.

Regarding the internet etf, IHH, I notice that there was an odd downward move in the price of the index on one day in May. There was barely a corresponding volume blip or even the typical explosion in volatility one typically sees after a movement of this size. Of course, arbs sometimes come in to exploit the premiums or discounts on these etfs, but then you see the volume spikes and volatility. There are 14 stocks in the index and I looked at the price action of the top 10 of them on that day. There was no corresponding price move in any of them. Perhaps the etf was either restructured, reorganized or split.

In any case, there are odd changes in securities prices because of cap distributions and reorganization, spin outs and what not. I’m wondering how qpp deals with these odd events to ensure robust and accurate data in the program?

Thank you,

JMorace

More Thoughts on Mohamed El-Erian's 'When Markets Collide'

"the banks are making it harder for leveraged speculators to speculate." Seems true "This is volatility." I don't think so as there are well capitalized shorts and short selllers can move prices. "This makes assets cheap for investors with available cash and gives them an incentive to inject liquidity back in..." no. not so.....

Sorry to disagree with you Goeff but there is no incentive to jump back in because these declines feed on themselves. Sales push asset prices down forcing assets to be marked to market forcing more asset sales to meet capitalization requirements.....

The only possible way out is a Minsky moment.... which seems to be at hand! (RE: Paulson and Freddie and Fannie this weekend.) It is our first this cycle. Minsky moment, that is. May it be the only one we need. We will see if it is enough.

Check out the literature on Japan and their real estate bubble if you want to see how long this can take when its handeled badly. Of course as a percentage of gdp, this real estate bubble seems to be a bit smaller than monseter the land of the rising sun created, so maybe we'll get out of it sooner.......and can happily return to our inflationary modeling. I hope so.

More Thoughts on Mohamed El-Erian's 'When Markets Collide'

dlaw's liquidity comment is interesting. It seems to me all of modern portfolio theory is predicated on the assumption of an ever expanding amount of money which inevitably pushes up the price of something. So, Central banks pump liquidity into the system and a bull market(or bubble) forms. Even when the bubble bursts, the next effect on wealth is that it has increased in the system as a whole. And so a portfolio allocation method like QPP makes intuitive sense. It’s trying to capture the sweet spots where the next expansion will happen.

But here we are in a situation where 'liquidity' is contracting in spite of central bank action (or error in the case of the ECB.) All the institutions are delevering. El Erian discusses this. Of course it becomes a vicious cycle. And it is a key question for the moment. What happens to the QPP modeler in a deflationary environment when prices of all assets go down? Granted these periods are rare, but that's because the central banks have inflated each and every asset (financial or hard) they can, now there are none left to expand. Maybe they can get them to expand again. But it is just as likely that they will fail in this effort So we must think through the possibility of asset prices deflation on our portfolios.

Sounds crazy, I know but deflation is not a rare thing. It’s rare just in our lifetimes. The thirties, post panic of 1907, civil war period. There are many other examples. So it can happen, and it is a not a ’black swan’ and how do we model for this possibility now?

More Thoughts on Mohamed El-Erian's 'When Markets Collide'

dlaw's liquidity comment is interesting. It seems to me all of modern portfolio theory is predicated on the assumption of an ever expanding amount of money which inevitably pushes up the price of something. So, Central banks pump liquidity into the system and a bull market(or bubble) forms. Even when the bubble bursts, the next effect on wealth is that it has increased in the system as a whole. And so a portfolio allocation method like QPP makes intuitive sense. It’s trying to capture the sweet spots where the next expansion will happen.

But here we are in a situation where 'liquidity' is contracting in spite of central bank action (or error in the case of the ECB.) All the institutions are delevering. El Erian discusses this. Of course it becomes a vicious cycle. And it is a key question for the moment. What happens to the QPP modeler in a deflationary environment when prices of all assets go down? Granted these periods are rare, but that's because the central banks have inflated each and every asset (financial or hard) they can, now there are none left to expand. Maybe they can get them to expand again. But it is just as likely that they will fail in this effort So we must think through the possibility of asset prices deflation on our portfolios.

Sounds crazy, I know but deflation is not a rare thing. It’s rare just in our lifetimes. The thirties, post panic of 1907, civil war period. There are many other examples. So it can happen, and it is a not a ’black swan’ and how do we model for this possibility now?

Defining a Set of Core Asset Classes

Hi Geoff,

I great, helpful article. Thank you for it.

I have a question about core asset classes. I see that you have used the DJ Utilities index as a surrogate for what El-Erian terms as the infrastructure asset class allocation. What other etfs do you see as adequate surrogates? Would railroads or natural gas pipelines count? Should this infrastructure investment be international or domestic etc.

A second question: I notice that pimco has a bond fund that invests in emerging market debt denominated in local currencies. Would participation in this constitute a different asset class or would it be a subset of the bond portion of the portfolio?

Thank you,

null