David Merkel writes in Toward a New Concept of Asset Allocation
Longtime readers know that I am not a fan of modern portfolio theory. It is a failure for many reasons:
When the system as a whole has too much leverage, all risky asset classes get affected. That’s what happened in 2008, as speculators got their heads handed to them, including many who did not realize that they were speculators.
One good example of an approach like this is Jeremy Grantham at GMO. Asset allocation begins by measuring likely cash flow yields on asset classes, together with the likelihood of obtaining those estimates. With domestic bonds, the estimates are relatively easy. Look at the current yield, with a haircut for defaults and optionality. Still there is room to add value in bonds, looking at what sectors are cheap.