Research & News
Projecting the future based on recent events is built into our instinctive circuitry but, as we all know, basing investment decisions on the latest market fluctuations works against long-term returns. This article maps out one-day correlations for returns of the S&P 500 index since 1928, and other tables show correlations over 5 trading days, four weeks, 12 months and four quarters—and all of them are weak. With annual data, the correlations gradually increase with each additional year of time horizon. Strong correlations do occur but only when dealing with decades: higher returns over a 15 year span are correlated with lower returns the following 20-year span (r = – .91) due to the constant tendency toward reversion to the mean long-term return.
Bob Veres, perhaps the best-known commentator and reviewer of financial advising articles, gave a very favorable review of this white paper in the August 2020 edition of Inside Information. The periodic table of asset returns is among the most widely used visual image to demonstrate the randomness of returns but only for one-year time horizons. This white paper presents periodic tables for longer time horizons, stretching out to 30 years. Using statistical analysis, the research reveals that over longer spans, much of the randomness vanishes, with rank correlations reaching 85%.
The article reviews how portfolios based on dedicated portfolio theory were made for volatile times like these and tend to hold up much better than portfolios based on modern portfolio theory. The recent market turmoil in both the stock and the bond market put clients’ financial plans under pressure, however we show how the Asset Dedication approach helps reduce some of the risks in ways that MPT and other approaches do not.
The Investment & Wealth Institute awarded Asset Dedication’s Stephen J. Huxley, Ph.D. and Brent Burns, MBA, the 2019 Journal Research Award for their paper “Safety Zones, Danger Zones, and the Critical Path: Visualizing U.S. Asset Class Returns Based on Time Horizons, Size, and Style,” published in the Retirement Management Journal, Vol. 7, No. 1 (2018). The paper included an analysis not only of long-term return patterns, it also outlined the unique dedicated portfolio pioneered by Asset Dedication for personal finance as outlined in our book. The award was given at the IWI conference in Las Vegas, May 5-7, 2019. Click here to read the paper. >>
A recent article in ThinkAdvisor chronicles a discussion with Daniel Kahneman (Nobel Memorial Prize in Economic Science, 2002) at the MorningStar Investment Conference in Chicago (June 11-13, 2018) about the need to find strategies that will minimize investors’ regrets. He theorized, based on Prospect Theory, that investors would be more comfortable with portfolios that consisted of two distinct parts: one for stable investments, the other for riskier investments. Probably without realizing it, Dr. Kahneman was advocating for dedicated portfolio theory as applied to personal finance. Click here to read our reflection >>