Strategic Allocation

Do the relationships among returns for stocks and the most heavily traded commodities (gold and crude oil) consistently offer risk diversification? In their July 2013 paper entitled “Gold, Oil, and Stocks”, Jozef Baruník, Evzen Kocenda and Lukas Vacha analyze the return relationships among stocks ( the S&P 500 Index), gold and oil (light crude) over the past 26 years. Specifically, they test the degrees to which their prices: (1) co-move; (2) reliably lead one another; and, share any long-term relationships (such as ratios to which they revert). They seek robustness of findings by employing a variety of methods, data sampling frequencies and investment horizons. Using intraday and daily prices of the most active rolling futures contracts for the S&P 500 Index, gold and light crude oil during 1987 through 2012, they find that: Keep Reading

How can investors capture returns from widely accepted risk factors associated with asset classes and subclasses? In the June 2013 version of his book chapter entitled “Factor Investing”, Andrew Ang provides advice on capturing risk premiums associated with factors such as value, momentum, illiquidity, credit risk and volatility risk. Based on the body of research, he concludes that: Keep Reading

In the introduction to his 2013 book entitled The Alternative Answer: The Nontraditional Investments That Drive the World’s Best-Performing Portfolios, author Bob Rice (Alternative Investment Editor at Bloomberg Television) states that his: “…basic approach is an adaptation of the strategic asset allocation model that endowments have used for years, one that reflects two critical modifications. First, there is great focus on liquidity and inflation-protected income. Second, it incorporates the latest analysis regarding portfolio construction, specifically regarding accumulation of risk premiums and avoidance of cross-asset vulnerabilities. …Modern investors need modern tools. And they exist; it’s just that there’s been no reliable user’s guide. Now, I hope, there is.” Based on the practices of selected “elite” investors, he concludes that: Keep Reading

Does adding a proxy for private equity to a diversified portfolio improve its performance? To check, we add PowerShares Global Listed Private Equity (PSP) to the following mix of asset class proxies (the same used in “Simple Asset Class ETF Momentum Strategy”):

PowerShares DB Commodity Index Tracking (DBC)
iShares MSCI Emerging Markets Index (EEM)
iShares MSCI EAFE Index (EFA)
SPDR Gold Shares (GLD)
iShares Russell 1000 Index (IWB)
iShares Russell 2000 Index (IWM)
SPDR Dow Jones REIT (RWR)
iShares Barclays 20+ Year Treasury Bond (TLT)
3-month Treasury bills (Cash)

First, per the findings of “Asset Class Diversification Effectiveness Factors”, we measure the average monthly return for PSP and the average pairwise correlation of PSP monthly returns with the monthly returns of the above assets. Then, we compare cumulative returns and basic monthly return statistics for equally weighted (EW), monthly rebalanced portfolios with and without PSP. We ignore rebalancing frictions, which would be about the same for the alternative portfolios. Using adjusted monthly returns for PSP and the above nine asset class proxies from November 2006 (first return available for PSP) through April 2013 (78 monthly returns), we find that: Keep Reading

A subscriber suggested testing the diversification power of SPDR Barclays International Real Estate (RWX) as a distinct asset class. To check, we add RWX to the following mix of asset class proxies (the same used in “Simple Asset Class ETF Momentum Strategy”):

PowerShares DB Commodity Index Tracking (DBC)
iShares MSCI Emerging Markets Index (EEM)
iShares MSCI EAFE Index (EFA)
SPDR Gold Shares (GLD)
iShares Russell 1000 Index (IWB)
iShares Russell 2000 Index (IWM)
SPDR Dow Jones REIT (RWR)
iShares Barclays 20+ Year Treasury Bond (TLT)
3-month Treasury bills (Cash)

First, per the findings of “Asset Class Diversification Effectiveness Factors”, we measure the average monthly return for RWX and the average pairwise correlation of RWX monthly returns with the monthly returns of the above assets. Then, we compare cumulative returns and basic monthly return statistics for equally weighted (EW), monthly rebalanced portfolios with and without RWX. We ignore rebalancing frictions, which would be about the same for the alternative portfolios. Using adjusted monthly returns for RWX and the above nine asset class proxies from April 2007 (first return available for RWX) through April 2013 (73 monthly returns), we find that: Keep Reading

Does adding a proxy for the currency carry trade among developed economies (long futures on three currencies with the highest interest rates and short futures on three currencies with the lowest interest rates) to a diversified portfolio improve its performance? To check, we add PowerShares DB G10 Currency Harvest (DBV) to the following mix of asset class proxies (the same used in “Simple Asset Class ETF Momentum Strategy”):

PowerShares DB Commodity Index Tracking (DBC)
iShares MSCI Emerging Markets Index (EEM)
iShares MSCI EAFE Index (EFA)
SPDR Gold Shares (GLD)
iShares Russell 1000 Index (IWB)
iShares Russell 2000 Index (IWM)
SPDR Dow Jones REIT (RWR)
iShares Barclays 20+ Year Treasury Bond (TLT)
3-month Treasury bills (Cash)

First, per the findings of “Asset Class Diversification Effectiveness Factors”, we measure the average monthly return for DBV and the average pairwise correlation of DBV monthly returns with the monthly returns of the above assets. Then, we compare cumulative returns and basic monthly return statistics for equally weighted (EW), monthly rebalanced portfolios with and without DBV. We ignore rebalancing frictions, which would be about the same for the alternative portfolios. Using adjusted monthly returns for DBV and the above nine asset class proxies from September 2006 (first return available for DBV) through April 2013 (79 monthly returns), we find that: Keep Reading

A subscriber suggested testing the diversification power of SPDR Barclays International Treasury Bonds (BWX) as a distinct asset class. To check, we add BWX to the following mix of asset class proxies (the same used in “Simple Asset Class ETF Momentum Strategy”):

PowerShares DB Commodity Index Tracking (DBC)
iShares MSCI Emerging Markets Index (EEM)
iShares MSCI EAFE Index (EFA)
SPDR Gold Shares (GLD)
iShares Russell 1000 Index (IWB)
iShares Russell 2000 Index (IWM)
SPDR Dow Jones REIT (RWR)
iShares Barclays 20+ Year Treasury Bond (TLT)
3-month Treasury bills (Cash)

First, per the findings of “Asset Class Diversification Effectiveness Factors”, we measure the average monthly return for BWX and the average pairwise correlation of BWX monthly returns with the monthly returns of the above assets. Then, we compare cumulative returns and basic monthly return statistics for equally weighted (EW), monthly rebalanced portfolios with and without BWX. We ignore rebalancing frictions, which would be about the same for the alternative portfolios. Using adjusted monthly returns for BWX and the above nine asset class proxies from November 2007 (first return available for BWX) through April 2013 (66 monthly returns), we find that: Keep Reading

It is plausible that high-yield corporate bonds have return characteristics substantially different from those of other asset classes, and therefore represent a good diversification opprotunity. To check, we add iShares iBoxx $ High-Yield Corporate Bond (HYG) to the following mix of asset class proxies (the same used in “Simple Asset Class ETF Momentum Strategy”):

PowerShares DB Commodity Index Tracking (DBC)
iShares MSCI Emerging Markets Index (EEM)
iShares MSCI EAFE Index (EFA)
SPDR Gold Shares (GLD)
iShares Russell 1000 Index (IWB)
iShares Russell 2000 Index (IWM)
SPDR Dow Jones REIT (RWR)
iShares Barclays 20+ Year Treasury Bond (TLT)
3-month Treasury bills (Cash)

First, per the findings of “Asset Class Diversification Effectiveness Factors”, we measure the average monthly return for HYG and the average pairwise correlation of HYG monthly returns with the monthly returns of the above assets. Then, we compare cumulative returns and basic monthly return statistics for equally weighted (EW), monthly rebalanced portfolios with and without HYG. We ignore rebalancing frictions, which would be about the same for the alternative portfolios. Using adjusted monthly returns for HYG and the above nine asset class proxies from May 2007 (first return available for HYG) through April 2013 (72 monthly returns), we find that: Keep Reading

Treasury Inflation-Protected Securities (TIPS), offering an explicit inflation hedge, may be an attractive asset for strategic diversification. To check, we add iShares Barclays TIPS Bond Fund (TIP) to the following mix of asset class proxies (the same used in “Simple Asset Class ETF Momentum Strategy”):

PowerShares DB Commodity Index Tracking (DBC)
iShares MSCI Emerging Markets Index (EEM)
iShares MSCI EAFE Index (EFA)
SPDR Gold Shares (GLD)
iShares Russell 1000 Index (IWB)
iShares Russell 2000 Index (IWM)
SPDR Dow Jones REIT (RWR)
iShares Barclays 20+ Year Treasury Bond (TLT)
3-month Treasury bills (Cash)

First, per the findings of “Asset Class Diversification Effectiveness Factors”, we measure the average monthly return for TIP and the average pairwise correlation of TIP monthly returns with the monthly returns of the above assets. Then, we compare cumulative returns and basic monthly return statistics for equally weighted (EW), monthly rebalanced portfolios with and without TIP. We ignore rebalancing frictions, which would be about the same for the alternative portfolios. Using adjusted monthly returns for TIP and the above nine asset class proxies as available from January 2004 (first available for TIP) through April 2013 (112 monthly returns), we find that: Keep Reading

It is plausible that crude oil as a dominant energy commodity has return characteristics substantially different from those of other commodities and asset classes, and therefore represent a good diversification opprotunity. To check, we add iShares Barclays 7-10 Year Treasury (IEF) to the following mix of asset class proxies (the same used in “Simple Asset Class ETF Momentum Strategy”):

PowerShares DB Commodity Index Tracking (DBC)
iShares MSCI Emerging Markets Index (EEM)
iShares MSCI EAFE Index (EFA)
SPDR Gold Shares (GLD)
iShares Russell 1000 Index (IWB)
iShares Russell 2000 Index (IWM)
SPDR Dow Jones REIT (RWR)
iShares Barclays 20+ Year Treasury Bond (TLT)
3-month Treasury bills (Cash)

First, per the findings of “Asset Class Diversification Effectiveness Factors”, we measure the average monthly return for IEF and the average pairwise correlation of IEF monthly returns with the monthly returns of the above assets. Then, we compare cumulative returns and basic monthly return statistics for equally weighted (EW), monthly rebalanced portfolios with and without IEF. We ignore rebalancing frictions, which would be about the same for the alternative portfolios. Using adjusted monthly returns for IEF and the above nine asset class proxies as available from January 2003 (the start of the “Simple Asset Class ETF Strategy”) through April 2013 (124 monthly returns), we find that: Keep Reading