…though humanity’s topsoil is fertile with talent, only one seed in ten thousand will ever flower – for want of discipline…
It’s puzzling that the concepts of Modern Portfolio Theory (MPT) continue to be widely used by individuals and professional organizations.
When it comes to portfolio construction, empiricism seems to have been rejected… or at least ignored. Can investors be trusted to be rational? Is expected return relative to volatility all that matters? Do market prices reflect all relevant information making alpha generation through active management impossible?
We think not.
Investors see volatility as a risk, but they also greatly fear the failure to achieve a return objective. This is a critically important point, as the need to fund liabilities with limited resources lasts a lifetime and returns that mirror a passive index do not guarantee the investor’s return objectives will be met. Active managers who are expert stock pickers have shown they can generate excess returns by using various risk/return factors present in the markets.
Think about what a style box represents. It is the commercial representation of anomalies in the market that allows managers to capture excess returns. These excess returns, generated by good managers, serve to refute the efficient market hypothesis that is a cornerstone of MPT. And what about the rational investor? If markets fully reflect all relevant information, then volatility results from a change in fundamentals. But we know this is not true. Market participants are emotional and make behavioral mistakes. These have been well documented by behavioral finance notables such as Robert Schiller and Daniel Kahneman.
(Both Kahneman and Schiller have written insightful books on behavioral finance and I highly recommend them!)
What about Salt Creek Investors? Where are we in this ongoing debate surrounding Modern Portfolio Theory? Our proposition is described by PMPT, Post Modern Portfolio Theory. The approach of analysis taken by Salt Creek Investors and Sortino Investment Analytics incorporates some of the tenets of MPT, but addresses the limitations mentioned above. Using the research of Sortino, Efron, Sharpe, Kahneman, Aitchison and Brown, Van der Meer and Fishburn, we base our portfolio decisions on a disciplined and thorough examination of historical data. We then assign probabilities to the various outcomes to determine the managers most likely to achieve the results indicated to us by the investor.
It’s as simple as this: The desired or needed return objective is just as important to the investor as portfolio volatility and portfolio expected return. Active management can achieve desired outcomes but only after rigorous examination of historical performance through bootstrapping and style analysis. Market participants are not rational. Incorporating elements of behavioral finance into the portfolio construction process is prudent and necessary. I invite you to take another look at SCI to see how our approach is different, based on a proven methodology that is both thorough and sound.
SCI HIGHLIGHTS
Monthly SCI Webinar
A monthly webinar to highlight special topics, answer questions and to provide training on the best practices. Please join me for a laid back and open session on the Salt Creek Investors platform.
Every 2nd Tuesday of the month @ 12pm CDT
Join from PC, Mac, Linux, iOS or Android:
Click here for Conference Login
Meeting ID: 325 159 0655
Dial In Audio: 669-900-6833
OUR NEXT SESSION IS:
Tuesday, July 10th
@ 12:00 pm CDT
“Bring Your Best: Fund Comparison & Analysis”
A special Q&A session for those interested in the deep analytics underlying the SCI Active Allocation strategy.
Submit your top mutual fund symbols and we will process the funds through our algorithms and prepare a data set to compare your mutual fund selection to SCI’s top picks!
Jim Kaffen, President, Sortino Investment Analytics
LaSalle St. Investment Advisors, LLC
940 N. Industrial Dr.
Elmhurst, IL 60126
Copyright © 2017 LaSalle St. Investment Advisors, LLC., All rights reserved.
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