Although we regularly emphasize the importance of Risk Management on this site I often worry that members may feel that we do not provide definitive solutions as to how this should be achieved, despite the fact that we make available tools such as the position sizing spreadsheet. The reason for this is that there is no definitive answer and that a solution that might be acceptable to one Party may not be acceptable to another and, in fact, a different Party may feel better “insured” by taking the other side of the position.
The folks at Newfound Research (NR) have just released a Weekly Commentary that provides a simple but clear overview of risk and the fact that it can be isolated, packaged and traded away – but it can never be destroyed. Regular ITAWealth members may remember NR as the authors of the white paper on Tranching that provided the inspiration for the development of the Kipling Tranche spreadsheet (albeit with slightly different application/interpretation than described in the original paper). NR graciously agreed that I can make the Commentary paper available to ITAWealth members and so the paper can be downloaded here.
A more detailed White Paper, Achieving Risk Ignition, referenced in the commentary, can be downloaded here for members looking for more detailed explanations. Regular readers will recognize the “Efficient Frontier” plots often used in Posts on this site.
Thanks to Corey Hoffstein at Newfound Research for permission to make this information available to our members.
David
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David,
At the end of the first article the authors describe what I call a “Mosaic Portfolio” where part of the portfolio is passively managed and another portion is actively managed using a momentum model.
Lowell
Lowell,
Yes, that is one reason why I thought it best to make the entire commentary available to members.
David
David et al.,
If I understand the gist of the second or more developed article, here are three points I take away.
1. Stocks provide growth and fight inflation.
2. Bonds provide resistance to a market down-turn.
3. Tactical management in many respects follows the Dual Momentum model. Invest in equities when they are outperforming SHY and if not, invest in bonds.
For a portfolio much above $500,000, I can see where it makes sense to hold static positions in the basic asset classes and then apply the momentum model or the momentum tranche model to the remaining assets.
Lowell
David,
This is such an excellent article. It took me more years than I would like to admit to internalize the fact that risk and return are joined. I try to explain this to my relative who asks me each Christmas, “Well, how well did your portfolio do this year?” I’ve tried to explain that this is a nonsense question without a lot more elaboration.
I still haven’t convinced him. Thanks for this article. It is so right on target!
Ernie
David et al.,
Related to the “Mosaic Model” there is an option available within the TDAmeritrade site of which I was ignorant for a long time. It is the Tax Lot ID methods. You can specify the buy and sell decisions to be conducted with tax efficiency in mind. Investors wishing to manage part of their portfolio passively (hold for a long time) and another part to be managed actively would do well to select Tax Efficient Loss Harvester.
Lowell
David,
Thanks for your effort and taking the time to make these papers available.
Ed
David,
Thanks for the links and interesting reads. Cory Hoffstein does sound like an interesting fellow and thinker. But, boy looking quickly at some of the below links and Newfound funds, the folks making the real money are the “managers”. Newfound funds with loads and 12b 1 are 6%. Yikes!! Fund managers and mangers of managers are the key to real wealth.
As below
http://www.geminifund.com/
“Create a fund”
http://www.nstar-financial.com/
https://www.virtus.com/about-us/investment-partners
And a “Mr Backtest” that Cory probably wishes he had never met.
http://fortune.com/2014/12/22/wall-street-sec-fsquared/
Again thanks for the great low fee (as in 0%) work/tools you have shared here, but the one key again is Lowell’s (and others mantra) of “low fees”, “low expenses”. Imagine the billions wasted by so many of the “investing” public paying the fees of their “partners”
Robert
Robert,
I think your comment above was caught in my Spam filter. Sorry for the slow reaction on my part.
Thanks for posting the Fortune article.
Lowell
David et al.
I believe one of the most important thing a momentum strategy does to reduce risk is to keep you out of holdings that are under performing. For the sake of example, if you had a buy and hold portfolio which held positions in each of the Rutherford ETF’s and re-balanced quarterly, as is often suggested, you would have continued to put money into VWO and DBC for the last 2 years. The momentum strategy has kept you from “catching a falling knife.” No stop loss orders or puts were necessary.
Richard