Strategic Asset Allocation Has Proved That It Improves Investors Returns And Reduces Portfolio Risk

Advisors and investors would do well to pay as much attention to the expected volatility of any portfolio or investment as they do to anticipated returns. Moreover, all things being equal, a new investment should only be added to a portfolio when it either reduces the expected risk for a targeted level of returns, or when it boosts expected portfolio returns without adding additional risk, as measured by the expected standard deviation of those returns. Lesson 2: Don’t assume bonds or international stocks offer adequate portfolio diversification. As the world’s financial markets become more closely correlated, bonds and foreign stocks may not provide adequate portfolio diversification. Instead, advisors may want to recommend that suitable investors add modest exposure to nontraditional investments such as hedge funds, private equity and real assets. Such exposure may bolster portfolio returns, while reducing overall risk, depending on how it is structured. Lesson 3: Be disciplined in adhering to asset allocation targets. The long-term benefits of portfolio diversification will only be realized if investors are disciplined in adhering to asset allocation guidelines. For this reason, it is recommended that advisors regularly revisit portfolio allocations and rebalance

“The Benefits of diversification are clear. Portfolio theory has played a crucial role in explaining the relationship between risk and return where more than one investment is held. It also enables us to identify optimal and efficient portfolios.”

HMC defined their Policy Portfolio to correspond to their benchmark, according to the modern portfolio theory (Markowitz, 1952), whose goal is to minimize the variance for a given return. The main advantage of the optimal portfolio allocation lies in its ability to provide weights on how to invest a given amount of money based on a few inputs. Optimal portfolio allocation is easy to implement, yet it faces some issues and limitations. As discussed in class, the model assumes normality in the returns, since the optimization only depends on the mean and the variance. HMC team should however take into account that the distribution of returns is not

I strongly advocate tactical asset allocation process and diversification over several different income and growth strategies. I believe that risk management and protection of investor's endowment are major objectives. In my portfolio, stocks may occupy a large portion and the

The U.S. economy appears to be on track for a sustainable recovery from one of the biggest economic problems in history, the Great Recession. Unemployment and inflation are both down from where they had been and things have shifted towards recovery. Inflation is likely to remain in an acceptable zone, but policymakers must be vigilant concerning inflation expectations. Employment has recovered slowly but surely as well. Uncertainty/Fear appears to be growing among American, particularly with the unrest in the Middle East, but studies are showing that faith in economists (and the Fed leaders) among citizens is growing rapidly. Due to the uncertainty, flexibility is

Over the past year we have gone through many changes politically, environmentally, and more. The main change occurring today is the Federal Reserve’s control on monetary policy which affects the interest rates and money supply all caused by the buying or selling of government bonds. The Federal Reserve needs to raise interest rates because they have “remained relatively slow by historical standards” (Binyamin Appelbaum, July 7, 2017). However, the inflation rate and rate of growth in GDP have been relatively low, restraining the Fed from raising the rates too high.

In order to find the optimal portfolio allocation, the group needs to find the portfolio structured with lowest risk under a given return. This can be achieved by applying Mean-Variance Theory and Markowitz model find the efficient frontier, which yields the most optimal portfolio under given returns. It can be expressed in mathematical terms and solved by quadratic programming. [Appendix A]

At last month’s Federal Open Market Committee (FOMC) meeting, Chair Yellen expressed her most upbeat assessment about the near-term path for the US economy by claiming that fiscal stimulus was unnecessary to achieve full employment. Accordingly, unemployment is expected by the FOMC to settle below its natural rate this year. Meanwhile, the current underlying sentiment amongst members appears to suggest that the economy can withstand three 25 basis points increases in the federal funds rate in 2017. This view will, however, not necessarily remain static. In December 2015, for example, the mood of the FOMC appeared to support four 25 basis points increases in its policy rate during 2016. The outcome was,

This is the riskiest strategy because the investor must act on uncertain forecasts of future interest rates. The strategy is designed to preserve capital (lose as little as possible) when interest rates rise (and bond prices drop) and to receive as much capital appreciation as possible when interest rates drop (and bond prices rise).

According to the CAPM model:R_i=α+βR_m+ε, α represent the abnormal return gained by the portfolio. If the market is efficiency, the α has to be zero.

In 2005, the vice president, chief investment officer, and their investment team met in order to compose a new asset allocation policy for the foundation’s investment portfolio worth $6.4 billion. One of the proposal’s suggestion was to reduce the overall exposure of the investment portfolio to domestic public equities. The proposal would also increase the allocation to absolute return strategies (with an “equitizing” and “bondization” program) and to TIPS. The new policy would slightly increase the Sharpe ratio of the foundation’s portfolio. They also needed to make a decision on a recommendation to pledge about 5% of the total value of the portfolio to Sirius V, which was the latest fund that specialized in global distressed real estate investments.

After years of quantitative easing, many of the world’s leading economies have begun to transition away from near zero interest rates. In December 2015, the Federal Reserve announced they would be raising interest rates and followed through in January 2016. Raising interest rates indicate to the world that economic growth is stabilizing and avoids inflating a bubble of cheap credit. While it was only a matter of time before the United States raised interest rates, some experts believe this hike was premature. The interest rate hike, amongst many other factors, is often pointed to when trying to explain the volatility that has shaken the global economy over these early weeks of 2016. Consequently, some economists are insisting the Fed should have moved interest rates down instead of up. Conventional wisdom would ask, “how can interest rates go lower than zero?”, but in this day in age, some economies are beginning to experiment with negative interest rates.

Q3. Suppose you want to add commodities into your investment opportunity set in addition to cash, domestic equity, and domestic bonds. What is your optimal asset allocation decision in this case, i.e., how should you allocate your fund across cash, domestic equity, domestic bonds, and commodities? What is the Sharpe ratio of your optimal complete portfolio?

Diversification is a method of investing that been shown to increase portfolio return while reducing portfolio risk as measured by standard deviation. This method specifically increases the efficient frontier for investors. The challenge to an investing firm is an appetite by its customers for an ever increasing efficient frontier. One area to explore to obtain this increase is through further diversifying through international diversification.

If the assets exist to help meet a liability, the liability should be considered in the process; 3. Basing one’s decision solely on an asset allocation’s mean and variance is insufficient to base one’s decisions, in a world in which asset class returns are not normally distributed; and, 4. Most investors have multi-period objectives and the mean-variance framework is a single period model. These potential shortcomings are the likely reasons that practitioners have not fully embraced meanvariance optimization. For a number of practitioners, mean-variance optimization creates the illusion of quantitative sophistication; yet, in practice, asset allocations are developed using judgmental, ad hoc approaches. Recent advances significantly improve the quality of typical mean-variance optimizationbased asset allocations that should allow a far wider audience to realize the benefits of the Markowitz paradigm, or at least the intent of the paradigm. In this article, we focus on the first issue: the lack of diversification that can result from traditional meanvariance optimization. We begin with two examples in which traditional mean-variance optimization