There may be some merit in a mechanistic approach to portfolio adjustment for the following reasons:
– Set at suitable review intervals, trading frequency and related costs can be minimised
– The inertia effect of “falling in love” with stocks is avoided
– The system can allocate assets on a rational basis (asset allocation is the biggest determinant of performance)
– Emotional components (herd behaviour, fear and greed, reluctance to admit mistakes etc) which bedevil individual investors are minimised.
– The system can mandate sales, the hardest element of portfolio management
– The system can be engineered to be biased towards capital preservation
I set out below the structure of a simple system which attempts to tackle the issues above.
Elements
This system determines which of four diverse asset classes are held at any given time. Each asset class has a single proxy chosen (a) to be easily traded on small spreads and (b) to have a good financial credentials (balance sheet, size etc). The four asset classes are:
Developed market equity
Real estate
Emerging market equity
Hard commodities (gold, mined raw materials)
Clearly there could be more than four asset classes but these four seem to me to cover much of the waterfront and do not correlate much in…
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