On May 21, 5:47 am, Beliavsky <beliav...[at]aol.com> wrote:
- quote -

How many months do you consider to be a minimum? Is there a maximum
number of months you recommend?

I am in the process of adding months of data to my MVOPlus data
source, as well as other asset classes.

Physlab

On May 17, 1:05 pm, Physlab <phys...[at]comcast.net> wrote:

<snip
- quote -

Using 5 years of historical data to estimate volatilities and
correlations is plausible, but using only annual data throws away too
much information -- the standard errors of estimates using 5
observations will be too high. It would be better to use monthly or
daily returns, as discussed in a paper by Stephen Figlewski that I
previously mentioned here http://groups.google.com/group/misc....4ef3c46963a414

Physlab,

Thats a pretty good asset allocation you got there! By all means
continue your research, but I don't think you are going to glean that
much more from breaking down your asset classes further.

The asset allocation model I use essentially IS a more broken down
version of yours. I plugged your AA into the professional planning
software that my firm uses and it lies on the same frontier as ours.
IOW, even though we divided our asset classes even further we still
ended up with an almost identical expected return, std dev., and
sharpe ratio. As a matter of fact, yours slightly outperforms ours.

Your portfolio generated a 10.45% expected return, 11.64% std dev.,
and 0.47 sharpe ratio while ours generated a 10.46% ER, 11.96% SD, and
0.46 sharpe. Of course this is all based on the software's assumptions
of variables, but the assumptions were held constant when comparing
the two portfolios (apples to apples and all).

My AA:

Cash = 2%
LgCap Value = IVE = 12%
LgCap Gwt = IVW = 15%
MidCap Value = IWS = 7%
MidCap Gwt = IWP = 10%
SmCap Val = IJS = 9%
SmCap Gwt = IJT = 10%
Int'l = EFA = 20%
Ntrl Resource = VDE = 4%
Emerging equity = EEM = 7%
Real Estate = RWR = 4%

You may even want to toy with consolidating your asset classes. The
software calculates that one will outperform both of the above
allocations with the following portfolio:
(10.5% ER, 11.70% StdDev, and 0.48 Sharpe)

IWF = 25%
IWD = 25%
IWR = 18%
IWO = 6%
IWN = 6%
EFA = 20%

***insert historical, hypothetical, yada yada disclaimers here***

"I am asking . Imposing constraints subjectively, knowing how the
asset classes have performed over the full sample, may be introducing
hindsight and biasing the results upward."

Here are my asset allocations when starting this experiment.

Large-Cap Growth = 10% (IVW)
Mid-Cap Growth = 10% (IJK)
Small-Cap Growth = 5% (IJT)

Large-Cap Value = 10% (IVE)
Mid-Cap Value = 15% (IJJ)
Small-Cap Value = 15% (IJS)

International = 25% (EFA)
REITs = 10% (ICF)

I am working to break the international into Int'l and Emerging
Markets (EEM) where the emerging markets will include China (FXI) and
other ETFs. The emerging markets asset class will comprise 10% of the
portfolio.

The logic for the above percentages is based on Fama & French's 1992
article and my personal experience when I set up a passive portfolio
back in late 2000.

Physlab

I am asking . Imposing constraints subjectively, knowing how the
asset classes have performed over the full sample, may be introducing
hindsight and biasing the results upward.

- quote -

"I could do the math myself, but I think the results are more usefully
presented as annualized returns."

I could post the annual returns if that would be helpful.

"The comparison is more meaningful if you constrain the optimized
portfolio to have the same volatility as the unoptimized one. What
were the volatilities of the two approaches?"

I did make one run were all asset classes contained the same
percentage or 12.5% of the total portfolio. In my personal
portfolios, I use a 30% upper and lower limit to identify when an
asset class is out of balance. For my first experiment, I use
constraints of 60% on the low side and 150% on the up side. For
example, if an asset class was assigned 10% of the portfolio, then the
lower constraint was set at .06 and the upper constraint at 0.15.
This means I want at least 6% invested in this asset class but no more
than 15%.

"Stocks have averaged higher returns than bonds, so the MVO could
outperform an equally-weighted portfolio (EWP) if it consistently
allocated more to stocks than the EWP did. You could compare the MVO
portfolio to one that had the same AVERAGE exposures to the asset
classes, to see if the MVO dynamic weights added value."

I did not include bonds in this analysis as I do not use bonds. Bonds
are a drag on a portfolio. Even though I am retired, I stay away from
bonds as I derive income from social security and pensions. I
consider those to be "bond equivalent" holdings, even though I do not
control them. I picked up this idea from Bernstein's second book,
"The Four Pillars of Investing."

My MVO Portfolio returns were compared with identical ETFs, only the
asset allocation percentages were different between the two
portfolios.

"Thanks again for posting your results. A similar project is on my to-
do list."

Please post your results when you complete this project. I now need
to go back and do a desk check on my SS formulas to make sure I did
not include errors. An Internet friend is checking my SS for errors.

I appreciate your questions as they help me rethink what I am doing.

Physlab

"This method can be sensitive to how narrowly one defines an asset
class. Are U.S. stocks one asset class or
4 ((large/small cap) * (value/growth))? What asset classes did you
use?"

The eight asset classes were: Large-Cap Growth, Mid-Cap Growth, Small-
Cap Growth, Large-Cap Value, Mid-Cap Value, Small-Cap Value,
International, and REITs. For investments, iShares are now used for
all the asset classes.



"What was the turnover using MVO and rebalancing? This would affect
the
tax efficiency of the strategies if they were not implemented in a
tax-
deferred account. What periodicity of returns (daily, weekly, monthly)
were used to compute expected returns and correlations?"

The "MVO Portfolio" was rebalanced once a year. Assume one used TD
Ameritrade with commissions of $7.00 per trade (that is what I pay),
if one made a round trip for each asset class, commissions would be 8
x 2 x $7.00 or $112.00 per year. It is not unusual for an asset class
not to require a percentage change, but the dollar amount would change
so I would assume one would pay over one hundred dollars in
commissions each year.

I used five-years of data (Evensky recommendation in his book, "Wealth
Management.") to calculate the arithmetic, geometric, standard
deviation, and correlations. Portfolio returns were calculated on an
annual basis. I need to go back over my SS to make sure I did not
have errors. The dollar difference seems too good to be true.

Physlab
PS I hope this message gets through as I have had a difficult time
getting my mail to "stick."


======================================= MODERATOR'S COMMENT:
Posters to this thread should relate comments to general financial planning.

Thanks for your interesting post.

On May 16, 7:12 pm, Physlab <phys...[at]comcast.net> wrote:
- quote -

This method can be sensitive to how narrowly one defines an asset
class. Are U.S. stocks one asset class or
4 ((large/small cap) * (value/growth))? What asset classes did you
use?

- quote -

What was the turnover using MVO and rebalancing? This would affect the
tax efficiency of the strategies if they were not implemented in a tax-
deferred account. What periodicity of returns (daily, weekly, monthly)
were used to compute expected returns and correlations?

- quote -

I am asking . Imposing constraints subjectively, knowing how the
asset classes have performed over the full sample, may be introducing
hindsight and biasing the results upward.

- quote -

I could do the math myself, but I think the results are more usefully
presented as annualized returns.

The comparison is more meaningful if you constrain the optimized
portfolio to have the same volatility as the unoptimized one. What
were the volatilities of the two approaches?

Stocks have averaged higher returns than bonds, so the MVO could
outperform an equally-weighted portfolio (EWP) if it consistently
allocated more to stocks than the EWP did. You could compare the MVO
portfolio to one that had the same AVERAGE exposures to the asset
classes, to see if the MVO dynamic weights added value.

Thanks again for posting your results. A similar project is on my to-
do list.

- quote -


======================================= MODERATOR'S COMMENT:
Posters to this thread should relate comments to general financial planning.

I recently completed an experiment where I divided the market into
eight asset classes including international and REITs. I used a
database from years 1989 through 2006. In the first part of the
experiment, equal percentages were invested in each asset class. The
asset classes were permitted to "run" without rebalancing.

In part 2 of the experiment, the different asset classes were brought
back into balance (12.5% of total portfolio for each asset class) at
the end of each year. Rebalancing did enhance portfolio performance.

Part 3 of the experiment was designed to see if mean variance
optimization (MVO) analysis would increase or decrease portfolio
performance. Thirteen five-year rolling time periods were selected to
determine what asset allocation would be used for the following year.
For example, data from 1989 through 1993 was fed into the MVO software
(I used MVOPlus from Efficient Solutions) in order to set the future
asset allocation percentages for the 1994 portfolio. The performance
of the "standard portfolio" was compared with the MVO Portfolio. Then
the next five-year data set, 1990 through 1994, was used to determine
the asset allocations for 1995. Performance results for 1995 were
then compared. This process was carried out for thirteen different
periods.

Constraints were placed on the different asset classes so the MVO
software did not generate portfolios that defied common sense. If
anyone wishes further information, just ask.

Ten thousand dollars invested in each asset class ($80,000) in 1989
grew to over $585,000 by the end of 2006, if the asset classes were
rebalanced. The "MVO Portfolio" grew to move than $950,000 through
2006.

Physlab