Category Archives: Asset Allocation

Asset Allocation, Fiduciary

Losing Steam

Commonly, a security or a market gets costly because of sound fundamentals promoting a positive mood and a definite upswing. The valuation inevitably becomes overextended, estimation turns out to be excessively bullish, and momentum starts to melt away. The pattern reverses. Sentiment will begin to turn as the pattern rotates down. Momentum will generally top halfway through the pattern. As per Shiller, CAPE valuations presently sits only off its most noteworthy highs.
All in all, the securities exchange has never been as costly as it is today. This means that forward returns will probably be outstandingly low; it implies that risk has also never been more prominent than it is today. We can utilize an essential metric like the ten-month Relative Strength Indicator in breaking down the quality of momentum. By this measure, the current upturn’s quality crested about 2.5 years ago and has been weakening since, placing it on a path of lower highs. Together, these two long-term factors: CAPE (fundamentals) and RSI (technicals), illustrate wildly inflated market prices disconnected from fundamentals and a trend in prices that has run out of steam.

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Asset Allocation, Fiduciary

Gazing At The Future

In his paper, Portfolio Selection, Markowitz led with: “The process of selecting a portfolio may be divided into two stages. The first stage starts with observation and experience and ends with beliefs about the future performances of available securities. The second stage starts with the relevant beliefs about future performances and ends with the choice of the portfolio. This paper is concerned with the second stage.” What about the first stage? Many ‘buy-and hold’ believers have reiterated their mantra in concert with Dr. Markowitz. But is that what he intended? Yes, stocks have more risk than bonds and historically have realized higher returns. BUT, what if your timeframe isn’t 75 to 100 years? What if it is 10 or 20 years? For that, you could observe historical 10 to 20-year horizons for your assumptions. One characteristic that is blatantly obvious for the starting level of valuation is the market valuation as determined by the price/earnings ratio (P/E) or better yet the cyclically adjusted price to earnings aka CAPE ratio (Shiller). As you can see throughout the past century, when the CAPE is above average, subsequent returns are below average and vice versa. EPS & S&P 500 may find the next few years will have below-average profit margins and returns.

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