Sunday Morning Coffee

The Barron's interview and the Up and Down Wall Street column each covered some similar ground this weekend. The interview was with Lou Harvey from research firm Dalbar Associates and focused some behavioral issues and voiced some concerns about Modern Portfolio Theory. The end of the Abelson column had some interesting thoughts from Jeremy Grantham.

First the Grantham money quote in opining why "blue chip" stocks might be lagging he notes what he calls the "let's all look like Yale syndrome." This is a very funny quote and something we've talked about here frequently over the years. The title for the interview was What Did Investors Learn From the 2008 Stock Market Crash. I jokingly tweeted "probably not enough."

Personally I think any article I can find on the endowments is fascinating reading although new articles are harder to come by since the tide went out on a few of them--so to speak. The people running these funds are very smart, despite the tide going out, have very useful things to say about asset allocation but (repeat theme coming) trying to emulate them is a very bad idea especially using exchange traded vehicles to build large weightings to things trying offer "private equity" exposure. As discussed yesterday large exposures to commodities can be problematic in terms of exchange traded products "not working" the way they are supposed to and more volatility than originally bargained for.

The interview with Harvey seemed to be saying that MPT works except for when it doesn't. He specifically talks about the need for some sort of back up when it doesn't work. I know people love to believe the market is at all times efficient or rational but that is difficult to buy into given that the market is people and people are not collectively rational. If they were then behavioral finance wouldn't exist, there would be less of a death of equities sentiment and I think this list could be endless. However I do concede that some people believe in efficiency and rational behavior wholeheartedly so ultimately you can decide for yourself.

In the last couple of years we have all learned a lot more about the 1930s and 1970s than we used to know. Given what we all know now and what we have recently been going through the conclusion I draw is that occasionally for very long periods of time the equity market does not get the benefit of the doubt and effort should be made to neutralize the downside which can be done with moderate exposures to things like inverse funds, certain commodities, absolute return funds and maybe you have other ideas you can share. And to repeat all of these things can be done in moderation. If you think of yourself as an investor then you need to accept that the market goes down every now and then and you don't need to hedge away every last negative basis point.