08-05-2008, 02:51 PM | #41 | |
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I will give you the high ground on theoretical arguments. I don't deal in that world and have no interest in it. That is the world of economists, who quite frankly also fall into the 80-20 rule. If I find a manager who has consistently outperformed over the past 10 years, as for me, I will take my chances with that person over some theory. Like I have said over and over in this thread, it doesn't bother me if someone chooses to do otherwise. Last edited by BYU71; 08-05-2008 at 02:53 PM. |
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08-05-2008, 03:07 PM | #42 | |||
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The implications of portfolio theory are hard to escape: once you tell me your care about the return and standard deviation of your portfolio, its really just math. Economics is flawed often enough, but math isn't. Last edited by pelagius; 08-05-2008 at 03:21 PM. |
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08-05-2008, 03:21 PM | #43 | |
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While math isn't flawed, couldn't how you use the math and conclusions you come from in using the math be flawed? The old joke about what is 2 plus 2 and the guy answers 4. No the answer is 22. |
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08-05-2008, 03:41 PM | #44 | ||
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Math wasn't those guys problem. It was the economics. They were using math but you can't say what they did was just math. They made some assumptions about the way the world should behave (all of which seemed pretty reasonable). In late 1998 the world didn't behave that way at all. Making assumptions about behavior and modeling how people behave is economics. Quote:
That said base portfolio theory can go wrong as well, but not because of the math. It would go wrong because of the economics. The economics of portfolio theory is that investors care about return and standard deviation is the right measure of risk. If those are bad assumptions then, while the math of portfolio theory is right, its not very useful. You have to buy into those basic economic assumptions. Once you do buy into those assumptions is just math: specifically its quadratic programming. Finally, there are implementation issues (I highlighted one of those early) that can cause problems. Also, note that because its "just math" portfolio theory doesn't necessarily have strong implications. You can only get so far with relatively benign economic assumptions. At some point you have to take a stand to get strong predictions like, for example, beta being a good measure of risk. Portfolio theory would never by itself give that implication (portfolio theory implies the risk of a security is the following: cov(r_i,r_p) where i is some security and p is your portfolio, which implies the risk of a security may be different for every person because everyone may be holding different portfolios overall). Portfolio theory is just a framework and because it doesn't make strong assumptions it doesn't give precise implications. That's both a strength and a weakness. Last edited by pelagius; 08-05-2008 at 05:04 PM. |
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