Modern portfolio theory advocates blending asset classes to maximize expected return and minimize portfolio volatility.
For advocates of Modern Portfolio Theory, this is confounding at worst and problematic at best.
Yet the belief in Modern Portfolio Theory has remained robust amongst the investing public.
Modern portfolio theory dictates that to reap higher returns, investors must assume greater risk.
FORBES: Just Say No To Federal Bailouts Of State Pension Funds
The company says it uses modern portfolio theory to build an optimized allocation across six asset classes.
But this is the math behind modern portfolio theory (MPT) developed in the 1950s by Harry Markowitz.
Today modern portfolio theory is used to justify the inclusion of even the riskiest assets in significant percentages.
FutureAdvisor says it uses a mathematical optimization algorithm to apply modern portfolio theory principles to each person's portfolio.
In other words, Modern Portfolio Theory as an investment strategy is fundamentally incomplete.
In the early 1950s, another doctoral student named Harry Markowitz posited a statistical approach to investment selection called Modern Portfolio Theory.
FORBES: Wise Up: 'Normal' Market Behavior Is Not Normal But Crazy Is
As part of that effort, they published and widely circulated a study illustrating the benefits of foreign diversification using Modern Portfolio Theory.
Professionals are more likely to understand real-world limitations of Modern Portfolio Theory.
The performance bonus from minimizing risk for a given level of return (a key tenant of modern portfolio theory) has also been reduced.
FORBES: Benefits From Asset Allocation Are Harder To Come By
We had a failure of typical modern portfolio theory allocation.
At the other end of the spectrum are proponents of modern portfolio theory and efficient markets, academicians like Burton Malkiel of Princeton University and Eugene Fama of The University of Chicago.
And although that may seem blindingly obvious to you now that you just read it, the entire edifice of Modern Portfolio Theory is based on ignoring the relationship between economics and finance.
FORBES: Interest Rates For Dummies: Solving The Interest-Rate Puzzle
The logic behind long-only equity, that risky assets deserve higher growth potential and straight market exposure will provide acceptable returns, works well in the ivory tower of modern portfolio theory, but often takes decades to deliver results in practice.
And to top it all off, Modern Portfolio Theory, which is drilled into the head of every finance major and, more to the point, every Certified Financial Analyst exam taker, tells them that finance has no discernible causal relationship with economics.
FORBES: Interest Rates For Dummies: Solving The Interest-Rate Puzzle
Anderson is a must read for anyone who wants to understand the economics and finance of that period, and anyone who, like me, is interested in learning the principles of classical finance, free from the distortions of Keynesianism and Modern Portfolio Theory.
应用推荐