After reading Rana Foroohar’s  disturbing book, “Makers and Takers,” I decided to review my own investment policy decisions to see if I might be able to identify some guidelines that would be useful to investors.  Foroohar concludes that investors would be wise to not seek professional advice and instead, put all their money in an ETF like the Vanguard S&P 500 (VOO ticker symbol).

Let’s begin with a critique of the research project that began February 2, 2015. Graph #1 shows where the market was at that time relative to August 17th 2016.

                                                     Graph 1

Graph 1 

The market, as measured by the S&P 500, was at an all time high (#2 in Graph 1).  Ms Faroohar would have had me invest the entire $100,000 in VOO.  My stated investment objective was to earn 8% compounded over the next 5 years using Portfolio Navigation theory developed at PRI.  Instead, I initiated the program with the DTR 6% portfolio with 40% in various iShare ETFs and 60% in short term fixed ETFs with a duration of less than 2 years.  Why?  I personally could not stomach putting $100,000 of my money in the market when it was at an all time high; but would I if it weren’t my money? In 2007 (see #1 in Graph 1) I was managing other people’s money in five trusts for FISERV Inc. and moved all five accounts to a minimum of 50% cash.

Many financial advisors have told me they would not dare hold that much cash for two reasons:  1. fear of being sued if the market went up, as happened in a case reported in Pensions and Investments magazine, and 2. Clients do not want to pay fees on cash held in their account.  Hmmm, would it be ethical for me to do one thing with my money and another with client’s money, or not hold cash because I’m not getting a fee for decreasing downside risk? When I correctly forecast the Brexit move and went 100% in cash (see #4 in graph 1 above) would I again be risking a law suit because the market subsequently went up 3%?  I cannot ignore the Where and Why described in her book, i.e., where we are (the top of an 8 year bull market)  and why it happened (buy backs and monetary policy).

Let’s take a closer look at the period of time since I began the Portfolio Navigation project.  Graph 2 shows how volatile this period has been.

                                                       Graph 2

Graph 2

Having 100% of one’s money in cash the day before Brexit might be considered dumb, given 20/20 hindsight, but having 100% in equities now is even dumber in my opinion.  What you don’t see is all the trades that took place as I was trying to manage this volatile period based on my 60 some years of experience in the investment business and the results of our research at PRI.  Graph 3 shows three pictures of uncertainty generated by PRI software.

                                                        Graph 3

2015 Distributions

As we move from 40% in equity (on the left) to 80% (on the right) the potential to exceed the Desired Target Return (DTR) relative to the downside risk goes from minus 10% to minus 60%.  I should take 60% more downside risk than upside potential for basically the same expected return of 9% and only 3% more upside potential?  No thank you Ms Foroorhar, because: I agree with your analysis and the risk-return trade off shown in Graph 3.

What did I learn?

  1. I would have been better off if I had just put all my money in the S&P 500 and played golf.  After too many trades I have ended up with only $2 more than I started with. However, it ain’t over ‘till it’s over.  This old soldier isn’t charging through a mine field for a 3% gain while risking a 20% loss.
  2. Neither bull markets nor people live forever. Don’t take stupid chances with your money or your life.
  3. I believe that Foroohar was correct about the need to use a longer planning horizon than 3 months. For people investing for retirement the planning horizon should be the time left until retirement.
  4. Foroohar is right, it is a complex problem that took her 700+ pages to describe. I disagree with her simple solution: put all your money in the S&P 500 and pray that Hillary will solve the gigantic problem Ms Foroohar describes.

I will continue to search for a better strategy when I resume this research project.

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A New Age is Here

According to Joshua Ramo, the good news is: we have entered the age of networks that instantly link databases, platforms and AI meshes so that everyone and everything is connected at faster and faster speeds. This will lead to breakthroughs in medicine, science, and engineering and yes, finance.  The bad news is: “an instantly linked world means that rapid apprehension of the nature of any danger is essential.  Time is the one thing we have ever less of in our crisis filled world.” He has a lot more to say that is worth reading and I recommend, “Seventh Sense” to you.

I think he is right about time. It used to be that a wait and see attitude was wise when it came to investment decisions, for example, let’s wait and see whether the UK exits the EU, and if it exists, let’s wait and see what the reaction is.  I plan to take action before I wait and see.  There are times when cash is king.  Therefore, an emergency landing is called for.

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Whose Performance?

Last week I said I would have more to say about performance measurement.  Below is the Performance numbers from the PRI account at Schwab:

PRI Performance through 1st qtr 2016The portfolio return for the first quarter was 3.85% versus 1.55% for the S&P 500 and 2.78% for Barclays Bond index.  This indicates the changes we made in the portfolio in January and February have worked well so far.  We beat the market in the first quarter…so what!  The goal was not to beat the market.  The goal was to compound at 8% and we are down 1.7% since inception and down 1.1% for the last 12 months.  If we had clients invested in this portfolio with a DTR of 8%, all they should want to know is are they on track toward my goal.  If not, what is the short fall.  What consultants are focusing on is the manager’s performance.  I am working on a paper that will demonstrate a better way to measure performance for investors.





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Market Hits Front Page

Market Plunge

When the stock market hits the front page it is because the news media thinks it will sell more papers than murders. In the past that has been a good indicator of a top or bottom.  The media is notorious for scaring you out of buying at market lows and encouraging you to buy at highs.  If you’re looking at that heads and shoulders pattern on the right, it is too late.  How is an unsophisticated investor supposed to buy when they read headlines like this?


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The Difference Between Investing and Speculating-Revisited

In February of 2004 I wrote an article on this subject that was published in Pensions and Investments magazine. At that time markets were dominated by institutional investors practicing a buy-hold strategy.  Now the markets are dominated by high speed computer trading algorithms.   Yesterday’s WSJ announced,

“China’s moves to guide the yuan lower have set off a free fall in the currency, and global market reverberations as investors pile on the bets against the yuan.“

Yesterday’s 400 point drop in the market was neither investor nor speculator driven.   Investors don’t place bets; they take positions with client’s wealth for 3 years or more.  Speculators use derivatives to place bets for 1 month to 1 year based on forecasts of future events.  Gamblers place bets on a hunch.  This new breed of gamblers has the backing of financial institutions that makes it possible for them to move markets, as they did yesterday, based on esoteric algorithms that probably no one understands.  We need a term to identify them.  I propose: “Financial Terrorists.”

Nothing that I know of in financial theory, behavioral sciences or economics can be used to combat them. It is very much like trying to fight Isis with WWII strategies.  It is unlikely that anyone can unite global regulators to control them.  China seems to be the only one willing to try and they just had their head handed to them.  However, it may be useful  to realize the old theories are not working.  As Henny Youngman once joked, Dr., it hurts when I do that, “Well Don’t Do That.” I still have 30% cash equivalents (like FLOT) in the PRI portfolio.

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The Facts about Who Developed PMPT & The Sortino Ratio

PRI-Rom Contract

The term, “Post-modern portfolio theory (PMPT)” was first used by Brian Rom to describe the underlying theory of an asset allocation model developed by The Pension Research Institute (PRI) called Primix. Mr. Rom wrote a very favorable article about Primix in Pensions and Investments magazine, May 2, 1988, page 34. The article noted that Premix “exactly calculates the risk of falling below the target return “ and later states: “users should request a white paper titled Risk and Relevance by the Institutes Director, Frank Sortino.” A few weeks later Mr. Rom signed an agreement with PRI to market PRI’s software. The agreement required Rom’s firm “include the following words on the opening screen: “This product is an extension of a model developed by the Pension Research Institute;” furthermore, the agreement limited Mr. Rom to “designing all Non-Technical Features” , such as the user interface.[i] PRI was responsible for all technical features.[ii] Therefore, all of the body of knowledge constituting PMPT (including all equations) prior to 1995, when Rom terminated the agreement, were developed by PRI. The source code for all Technical Features in the software including the Sortino ratio was written by Dr. Hal Forsey, professor of mathematics at S.F.S. U. A copy of the PRI Agreement was hand delivered to the San Francisco office of Wikipedia 9/8/2015.

The supportino evidence can be viewed by clicking on the PRI-Rom.pdf  contract at the top.

[i] Defined in the PRI agreement with Brian Rom as:”All those attributes of the Products that relate to on-screen menus and user interaction.”

[ii] Defined in the PRI Agreement as: “The algorithms, mathematical and statistical operations and other functions required to compute the results.”

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PRI 1st Quarter Performance

This is the way we believe performance should be shown.  The graph shows where the fund is relative to the investment objective of compounding at 8%.  My thanks to Ron Surz, President of for creating this graphic for me.

Performance 3

If an investor started when the fund began on February 1st they would be down $58. 55 for every $100,000 invested.  The asset allocation at the end of the 1st 3 months of operation was 54.8% in short term fixed income.  The fund invests only in ETFs.  Where the fund is relative to the S&P 500 or any other index is irrelevant.  The goal is not to beat the market.  The goal is to achieve a payout of 8% compounded.  The investment objective that supports that goal is to maximize the potential to exceed 8% relative to the risk of falling below 8%.  The investment policy is to solve for the optimal asset allocation of active and passive managers based on current market conditions.

Our quantitative statistics indicate the stock market is over due for a correction.  If and when that happens we intend to employ portfolio navigation to increase equity exposure.

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