In the beginning there were bonds. This was the path to a secure future and a prudent man was always more interested in the return of his capital than the return on his capital. A simpler and different time for sure. In 1934 Graham and Dodd introduced us to an approach for analyzing stocks using fundamental analysis to build portfolios. Investors now could capture a risk premium in excess of bonds if they did the work necessary to separate the good from the bad. Ugly didn’t matter. This method of portfolio construction is still used today, though not as extensively. Optimization was lacking. Graham Dodd eventually gave way to MPT (Modern Portfolio Theory). This theory of portfolio construction originated some 40 years ago and has become the generally accepted method of portfolio construction. Almost every finance course syllabus will focus on MPT. Economists and prognosticators refer to it often. Efficient markets and rational investors are the mainstays of MPT. Buying and holding the index until the cows come home is the best way for the average investor to capture the most return for a given amount of risk. When it works, it works well. But when it doesn’t, it’s a roadmap to nowhere.
PMPT (Post Modern Portfolio Theory) is the essence of our process at Salt Creek Investors (SCI). Thanks to the work done by Sortino Investment Analytics (SIA), we’ve enhanced MPT by mapping return objectives into the policy allocations then aligning these along a passive efficient frontier. Another improvement is how SCI looks at upside and downside potential. We don’t see them as being the same. We penalize managers when they fall below the threshold more severely than when they exceed. I’m convinced the evolution of MPT to PMPT is a better way to design portfolios. But the true test of the pudding is in the taste, and so far we like what we’ve been eating. Finally, it works for a reason.
We have an investment philosophy based on a proven rationale. We have a structured process for manager selection. We exhibit discipline and persistence across the approval process, and we will continue to do so in our efforts.
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