Portfolio Optimization Software?
sawyer...@gmail.com
portfolio using MPT.
I'm looking for some software (preferably free) that would allow me to
run what/if scenarios.
Nothing fancy, since I'm planning on investing is ~5 Vanguard Funds
(Large/Small/International/Growth/Value), but I'm curious what the
historical performance of various weightings would produce in relation
to the risk.
Any pointers would be appreciated.
Thanks-D
Elle
involve a high margin of error. E.g. you'll have to choose a
timeframe for the average return of each category of stocks,
and then weigh how meaningful this timeframe is. Some of
these categories also do not even offer much historical
data, so for them the statistical significance of
"historical return" and related parameters is going to be
low. For categories where data is sparse, the caveat "past
performance is no guarantee of future performance" becomes
particularly important.
I am sure one can buy such software, but mostly I think it
will enrich its manufacturers, not you or anyone else.
They're really selling snake oil, to a large extent, IMO.
I suggest you experiment a bit with the free online asset
allocating tools linked at
http://home.earthlink.net/~elle_navorski/id8.html . This
would be a wise choice IMO in particular because you're
considering "just" the five Vanguard funds, which seem a
fine set of choices to me, one which I doubt can really be
beat except via luck in the future. Note the discrepancies
from one tool to the next, even when using ostensibly the
same set of assumptions. To me, these differences do not
mean one tool is better than the next. Instead, it means
that the margin of error is somewhat wide when allocating
one's assets. It's a crap shoot as to how much tweaking will
yield the optimum portfolio for the future.
beli...@aol.com
> I've finally gotten to the point will I would like to optimize my
> portfolio using MPT.
>
> I'm looking for some software (preferably free) that would allow me to
> run what/if scenarios.
If you have the return series, you can use Solver in Excel to compute
the historical optimal portfolio using by minimizing the portfolio
return variance subject to the constraint of the return exceeding a
target level and the portfolio allocations summing to one. I think
some web sites discuss this.
Given expected returns, volatilities, and correlations one can use the
online tool of William Sharpe (of CAPM fame) at
http://www.stanford.edu/~wfsharpe/ws/ws_opt.htm to find the optimal
portfolio.
A programmer can use the fPortfolio package
http://lib.stat.cmu.edu/R/CRAN/src/contrib/Descriptions/fPortfolio.html
of the free R statistical program or can write a program in C++ or
Fortran (there are other possibilities) and use one of the public
domain optimization codes in those languages. The inputs for portfolio
optimization are estimated with error, as noted by another poster. A
walk-forward test where portfolio weights are computed at each time
step using information known at the time can show whether portfolio
optimization is useful in a given context.
kastnna
> I've finally gotten to the point will I would like to optimize my
> portfolio using MPT.
>
> I'm looking for some software (preferably free) that would allow me to
> run what/if scenarios.
Can't help you much on the free part, but we use SunGard's Planning
Station and AllocationMaster modules. They do what you are asking. You
can enter in a real or hypothetical set of asset holdings and it will
give an expected return and std dev. The fund info is pulled from the
internet. All you need is a symbol. It also runs Monte sims. SunGard
offers a free 30-day trial to financial planners.
The software focuses on Modern Portfolio Theory, which most others
seem to neglect. Plug in the assets to be analyzed and you can see
where the porfolio lies on an efficient frontier. We usually find that
the clients portfolio doesn't even lie on the frontier, meaning that
there is a portfolio that can achieve higher expected returns for
equal risk or equal returns for less risk. Holding all other variables
constant, that's hard to argue with.
sawyer...@gmail.com
Solver (per Beliav)...
As Kastnna indicates above, the goal is to get on the efficient
frontier. Even though most of the big indexes have increasing
correlation recently (small/large caps & international funds), there
is enough to make it worthwhile.
It's been a few years since I did optimization (heck, it's been a few
years since I calculated correlations and volitilities, but heck,
since I believe in MPT, and am staking my financial future on it, I
better understand the magic inside the black box.
Regards-D
A. Bruce King
components of your portfolio interact with each other to move you towards
the efficient frontier - towards it, not on it!
The MVO software available at www.effisols.com is inexpensive and good to
use for this.
The REAL problem with doing this is to get historical monthly total return
data for each of the funds in your portfolio (or candidates for possible
substitution or addition to it). I have spent considerable effort doing this
over the years and now have 14 years of data on some 90+ funds I look at.
These are put together from Reuters data service as well as manual
corrections based on data as needed from fund web sites, yahoo, etc.
Emphasis on MANUAL data corrections. All the data services are good on NAV
values, usually dividends, but very poor on capital gains distributions.
That is the weakness of this approach.
A. Bruce King
<sawyer...@gmail.com> wrote in message
news:1172083838.2...@p10g2000cwp.googlegroups.com...
beli...@aol.com
> IMHO the issue is not optimization per se, but rather exploring how the
> components of your portfolio interact with each other to move you towards
> the efficient frontier - towards it, not on it!
>
> use for this.
>
> The REAL problem with doing this is to get historical monthly total return
> data for each of the funds in your portfolio (or candidates for possible
> substitution or addition to it). I have spent considerable effort doing this
> over the years and now have 14 years of data on some 90+ funds I look at.
> These are put together from Reuters data service as well as manual
> corrections based on data as needed from fund web sites, yahoo, etc.
> Emphasis on MANUAL data corrections. All the data services are good on NAV
> values, usually dividends, but very poor on capital gains distributions.
> That is the weakness of this approach.
A good place to look for total returns of indices, especially style
indices, is the site of
Professor Ken French, http://mba.tuck.dartmouth.edu/pages/faculty/ken.french/data_library.html
.
One could test how high the correlation is between those returns and
those of comparable index funds.
The major databases of mutual fund returns used by academics are those
of CRSP and Morningstar, and there is a paper comparing their accuracy
at http://papers.ssrn.com/sol3/papers.cfm?abstract_id=350664 .
One can get more accurate estimates of volatility and correlation
using daily rather than monthly returns, with the caveat that the
computed correlations of foreign and domestic stock funds may be
downwardly biased due to nonsynchronous trading -- adjustments can be
made to account for this.
Elle
> One can get more accurate estimates of volatility and
> correlation
> using daily rather than monthly returns, with the caveat
> that the
> computed correlations of foreign and domestic stock funds
> may be
> downwardly biased due to nonsynchronous trading --
> adjustments can be
> made to account for this.
How does using daily returns vice monthly produce "more
accurate" estimates?
The only way to gage accuracy is if the actual values of
volatility and correlation are known. One can (and people
do) use statistical science to generate numbers from the
data, but the leap from economics to an assumption that
market numbers reflect science is enormous.
beli...@aol.com
wrote:
> <beliav...@aol.com> wrote
>
> > One can get more accurate estimates of volatility and
> > correlation
> > using daily rather than monthly returns, with the caveat
> > that the
> > computed correlations of foreign and domestic stock funds
> > may be
> > downwardly biased due to nonsynchronous trading --
> > adjustments can be
> > made to account for this.
>
> How does using daily returns vice monthly produce "more
> accurate" estimates?
Theoretically, sampling a Brownian motion at a higher frequency
produces
more accurate estimates of its volatility.
Empirically, the study
Forecasting Volatility
Financial Markets, Institutions, and Instruments 6 (1), 1997.
http://pages.stern.nyu.edu/~sfiglews/Docs/Forecasting%20Volatility.pdf
found (p53 of the PDF file)
"With regard to calculating historical volatilities from daily versus
monthly
data, the table shows that for the longest horizon, 24 months,
computing the volatility forecast
from 5 years of monthly historical data gives the most accurate
forecast, while for the 6 month
horizon, forecasts constructed from (some amount of) daily historical
data had the lowest RMSE.
At the 12 month horizon, results were mixed, with monthly beating
daily for 2 series, daily
beating monthly for one, and one tie. Again, the GARCH model performed
very well for the
S&P 500 index volatility, but not for the other series, with RMSEs
increasing sharply for longer
horizons."
So if one is willing to change allocations at a frequency of every 6
months or higher, volatility estimates using daily data may work
better. Its an empirical question.
> The only way to gage accuracy is if the actual values of
> volatility and correlation are known. One can (and people
> do) use statistical science to generate numbers from the
> data, but the leap from economics to an assumption that
> market numbers reflect science is enormous.
One can study whether volatilities computed using daily vs. monthly
data produce better forecasts of future volatility (which is also
measured with some error) and whether portfolios constructed using
daily volatility estimates have a better risk/return tradeoff.
Elle
> On Feb 22, 10:01 pm, "Elle"
> <honda.lion...@nospam.earthlink.net>
> wrote:
>> <beliav...@aol.com> wrote
>>
>> > One can get more accurate estimates of volatility and
>> > correlation
>> > using daily rather than monthly returns, with the
>> > caveat
>> > that the
>> > computed correlations of foreign and domestic stock
>> > funds
>> > may be
>> > downwardly biased due to nonsynchronous trading --
>> > adjustments can be
>> > made to account for this.
>>
>> How does using daily returns vice monthly produce "more
>> accurate" estimates?
>
> Theoretically, sampling a Brownian motion at a higher
> frequency
> produces
> more accurate estimates of its volatility.
Brownian motion, a scientific phenomenon, is not the same as
stock or mutual fund price motion, a phenomenon depending on
mass psychology, among other things.
I know certain categories of people are eager to claim they
are the same, but they are seeking nirvana, but it's no
different from insisting there is a perpetual motion machine
out there.
[snip comments from a study that used five years of data,
and sorry, wreaks of numerology or someone trying to sell
snake oil.]
> So if one is willing to change allocations
> at a frequency of every 6 months or higher,
> volatility estimates using daily data may work
> better. Its an empirical question.
Since it is not based in science, it is wrong to assert this
is empirical. You're forcing science upon a non-scientific
phenomenon.
>> The only way to gage accuracy is if the actual values of
>> volatility and correlation are known. One can (and people
>> do) use statistical science to generate numbers from the
>> data, but the leap from economics to an assumption that
>> market numbers reflect science is enormous.
>
> One can study whether volatilities computed using daily
> vs. monthly
> data produce better forecasts of future volatility (which
> is also
> measured with some error) and whether portfolios
> constructed using
> daily volatility estimates have a better risk/return
> tradeoff.
I would be interested to know whether daily vs. monthly data
have produced better predictions (with statistically
significanct differences between the two) for terms of 20
years.
For the OP choosing among some five Vanguard funds, this is
missing the forest for not just the trees, but the amoebas
residing in the bark of the trees.
lorax
> > portfolio using MPT.
> seem to neglect. Plug in the assets to be analyzed and you can see
> where the porfolio lies on an efficient frontier. We usually find that
> the clients portfolio doesn't even lie on the frontier, meaning that
> there is a portfolio that can achieve higher expected returns for
> equal risk or equal returns for less risk. Holding all other variables
> constant, that's hard to argue with.
Please excuse my naivete, but I was reading Bernstein's _The
Intelligent Asset Allocator_ and he writes that it's really only
possible to determine the portfolios that lay on the efficient
frontier in the past. IIRC, he goes so far as to say something along
the lines that those forecasting the efficient frontier might also be
talking with Elvis.
Given this, I assume this software helps determine if a portfolio
_was_ on the efficient frontier. Bernstein indicates that chances are
that it wouldn't have been. But how useful is looking backward for
performance? He also indicates that future efficient frontiers are
very different than those in past.
I'm probably missing something since there's obviously a market, but
why would someone use this software?
beli...@aol.com
demanding proof of statements made by others but rarely provide
evidence for your own half-baked theories and assertions. Judging from
your comments in this newsgoup you know little about investing or
financial theory but make a lot of strong accusations ("snake oil"
salesman, "numerologists"). Professor Figlewski, the author of the
paper I cited, is a respected researcher in finance. The paper I cited
is a good introduction for someone interested in volatilty
forecasting, but it is certainly not the last word. It does not try to
"sell" anything -- don't smear him!
I have a CFA and PhD in physics, have worked as a derivatives
professional for about 10 years, and I read the major finance
journals. I have been posting to this newsgroup for some time, and
people check my history to determine my credibility. You seem to
believe there is no expertise in finance other than your own. The
newsgroup would be much better off without you.
Elle
> Please excuse my naivete, but I was reading Bernstein's
> _The
> Intelligent Asset Allocator_ and he writes that it's
> really only
> possible to determine the portfolios that lay on the
> efficient
> frontier in the past.
Indeed. Any thoughtful person will note this. It's the basis
for the disclaimer, "Past performance is no guarantee of the
future... "
> IIRC, he goes so far as to say something along
> the lines that those forecasting the efficient frontier
> might also be
> talking with Elvis.
I do think that's a fair statement to keep in the back of
one's mind.
snip
> I'm probably missing something since there's obviously a
> market, but
> why would someone use this software?
OTOH, I think an understanding of economics, mass psychology
in the markets, and similar does allow one to hypothesize
meaningfully about what the future holds for stocks and
bonds. Nothing's guaranteed, but people need to plan, so we
do our best, on the assumption--outlandish or not--that
people do not change too much, so our societies won't change
much (or they change imperceptibly slowly as far as markets
are concerned, over the course of a lifetime), and there
will always be a demand for the latest gizmo or super-duper
service, which is often an offshoot of today's large
company. (So sayeth the "large value" category of investor.)
kastnna
>
> Given this, I assume this software helps determine if a portfolio
> _was_ on the efficient frontier. Bernstein indicates that chances are
> that it wouldn't have been. But how useful is looking backward for
> performance? He also indicates that future efficient frontiers are
> very different than those in past.
>
> I'm probably missing something since there's obviously a market, but
> why would someone use this software?
Like most things, the software isn't perfect. EF is a comparative
tool. The most common use is to compare a clients portfolio to the
efficient frontier. Of course this means that we must have both the
client's portfolio (simple to obtain) and an efficient frontier (not
simple to obtain). It also shows how other hypothetical portfolios and/
or changes to the clients portfolio will bring it closer to or farther
from the EF.
Bernstein's argument is valid but somewhat utopian (read: childish).
He suggests that because perfection cannot be reached (a truly
efficient frontier), the whole theory should be scrapped. The
software's EF is probably not perfect but if its close, and especially
if its better than the clients current holdings, then its an
improvement. And that's a good start.
A chance to improve your situation is beneficial even if it is not
maximum improvement!
In three years I have yet to see a client's portfolio that lies to the
left of the program's efficient frontier.
Elle
> You are always
> demanding proof of statements made by others
I don't know about "demanding," but I do think that the
value of this group hinges largely upon critical examination
of posts and asking questions where things are not clear,
like my query about your claim that market behavior is
necessarily that of Brownian motion. I noticed you ignored
this point, when of course there is a meaningful discussion
that might shed more light on from where you are coming and
from where I am coming.
I don't care about credentials. Answer the questions, or
not, and be revealed in these fashions. I am actually still
surprised at your confusion over the meaning of statistical
"confidence level."
> but rarely provide
> evidence for your own half-baked theories and assertions.
I don't think you know my theories. Either way, ask a
question about them, and I will try to respond.
Michael Siemon
"kastnna" <kas...@auburnalum.org> wrote:
...
> Bernstein's argument is valid but somewhat utopian (read: childish).
> He suggests that because perfection cannot be reached (a truly
> efficient frontier), the whole theory should be scrapped.
I don't think that is his argument; at least that is not how I read it.
He points out that what emerges from MVO programs is highly sensitive
to the details of the current/recent volatility and correlation data.
With the consequence that from a largish universe of asset classes,
the generated points on the EF are not stable over time, even relatively
short periods of time.
His discussion may be misleading (almost necessarily so, I think, in
that it is popular in nature and does not really go into what the
optimizers do and what constraints can be placed on them). I wonder
(and do not have one around to play with to examine this) whether
these things do well if limited to a preselected smallish (<20?)
asset/index set of choices and relatively relaxed (1-2 year?)
rebalancing schedules? E.g., if I were to tinker with the allocations
of the ~15 DFA funds I use?
...
> In three years I have yet to see a client's portfolio that lies to the
> left of the program's efficient frontier.
Well, by definition it can't be. And almost any "seat of the pants"
portfolio could probably be improved, as you suggest, by looking at
MVO optimizations, allowing consideration of (but not automatically
indulging in) substitutions of assets not considered by the client.
Bernstein certainly doesn't reject the notion of the efficient frontier;
I read him as cautioning readers not to use MVO programs uncritically.
Will Trice
beli...@aol.com wrote:
> Forecasting Volatility
> Financial Markets, Institutions, and Instruments 6 (1), 1997.
> http://pages.stern.nyu.edu/~sfiglews/Docs/Forecasting%20Volatility.pdf
This paper seems to indicate that even simple techniques for forecasting
volatility are fairly good over sufficiently long periods. Of course,
that's only one part of the optimization problem. How good are
forecasts of the correlations between the price movements of different
assets?
-Will
kastnna
worded it pretty poorly.
FWIW, we can plug in as many or as few asset/indexes as we choose. The
asset mix we use to simulate an efficient frontier consists of a bunch
of ETFs that attempt to approach the market portfolio as close as
possible. As you implied, the difficult part is generating a perfectly
efficient frontier that actually has a tangency to the market
portfolio. I an almost certain that our frontier is not 100%
efficient. What we have found to date, is that no one has brought us a
portfolio that is any closer. Our market portfolio was created by some
very bright minds that actually collaborated with Mr. Markowitz while
designing the software.
Keep in mind, we use MPT as a sales tool not as a scientific research
method. We don't have to be perfect (no one is), we just gotta be
better than everyone else. Our new prospect meetings hopefully go
something like this:
1. The potential client brings us a portfolio
2. We enter it into the system
3. We show the client that a more efficient portfolio can be created
using about 12 ETFs.
4. The client decreases risk without sacrificing returns.
5. We get new client, new client gets more efficient portfolio than he
had before. Everyone's happy!
Elle
> 5. We get new client, new client gets more efficient
> portfolio than he
> had before. Everyone's happy!
How come you don't word this to reflect the reality of what
you're generating? E.g. "the new client gets an allocation
that, by certain historical measures, would have been more
efficient than his old allocation."
I support diversifying so as to increase returns and reduce
risk and expect your service is worth it (assuming the cost
is reasonable). But I feel a little more honesty about the
uncertainty of what the future holds is appropriate.
Especially when academics like Robert Shiller are going
around saying that, given a choice between (1) an all-stock
or (2) all-inflation "protected" bonds portfolio, he'd
choose the bonds.
beli...@aol.com
How confident are you that the efficient portfolios you generate for
clients
do better, AFTER they are constructed, than the portfolios clients
come in with?
Have you studied the level of outerpformance, in terms of Sharpe
ratios?
kastnna
Sorry Elle. We attach our lovely little "based on historical data"
disclaimers on everything necessary in our office. For the sake of
brevity I leave it off on a non-regulated usegroup.
If the readers here honestly believe that I can accurately predict the
future and/or have software that can assure outpreformance then they
have much bigger problems than can be addressed in this group.
Elle
> We attach our lovely little "based on historical data"
> disclaimers on everything necessary in our office. For the
> sake of
> brevity I leave it off on a non-regulated usegroup.
Words are everything. Newbies overwhelmingly frequent this
group.
Just my opinion, but it serves the "financial critical
thinking skills" of America etc. well to add an extra
qualifying sentence (or words) to posts like your previous
one. Otherwise, one could make a perfectly reasonable
argument that there's some attempt at fraud (unconscious or
otherwise) and seduction here when one uses phrases like
"Our company's allocation is more efficient than yours."
kastnna
> How confident are you that the efficient portfolios you generate for
> clients
> do better, AFTER they are constructed, than the portfolios clients
> come in with?
> Have you studied the level of outerpformance, in terms of Sharpe
> ratios?
Somewhat. We do "look back" to compare performance after the
portfolios are constructed. The software is only used for fee-based
clients. These clients get quarterly reviews that cover performance,
rebalancing, AND the performance of their old portfolio had they kept
it. It reassures clients to see what would have happened had they not
changed their portfolio. The company that developed the software,
fiserv, does most of the legwork for us. We get a wealth of
performance data against numerous benchmarks. Among others, actual
return and standard dev. are given so that we can do sharpe ratios.
We do not perform sharpes on ALL clients because many had portfolios
that were so poorly constructed there is no question. Many
underperformed us AND had higher Std Dev.
The clients that had fairly well constructed portfolios to begin with
tend to be our "more demanding" clients by virtue of being more
educated. We usually do sharpe ratio values with them during their
review. We are confident so far, but remember we have only been using
the software for three years and many of the ETFs we use aren't very
old either.
kastnna
> Words are everything. Newbies overwhelmingly frequent this
> group.
>
> Just my opinion, but it serves the "financial critical
> thinking skills" of America etc. well to add an extra
> qualifying sentence (or words) to posts like your previous
> one. Otherwise, one could make a perfectly reasonable
> argument that there's some attempt at fraud (unconscious or
> otherwise) and seduction here when one uses phrases like
> "Our company's allocation is more efficient than yours."
I don't intend to mislead the noobs and I don't think they can be to
any serious extent. Even if they become convinced that I (or someone
else) "have all the answers" they are never going to not run into the
necessary disclaimers at some point in the process. If they somehow
managed to track me down, the first thing they would hear would be
"you know there is no guarantee of future performance..." I don't end
every verbal sentence with a disclaimer either when talking with
clients, but before we make any meaningful progress the disclaimers
are well understood.
Long story short its caveat emptor, and "you get what you pay for." If
you like you can attach a disclaimer for me everytime I post. I'll say
"thanks" now in advance.
FYI, by definition fraud cannot be "unconscious". The very basis for
fraud is intent. Careful tossin' that word around.
Elle
> I don't intend to mislead the noobs and I don't think they
> can be to
> any serious extent. Even if they become convinced that I
> (or someone
> else) "have all the answers" they are never going to not
> run into the
> necessary disclaimers at some point in the process. If
> they somehow
> managed to track me down, the first thing they would hear
> would be
> "you know there is no guarantee of future performance..."
> I don't end
> every verbal sentence with a disclaimer either when
> talking with
> clients, but before we make any meaningful progress the
> disclaimers
> are well understood.
You don't even need the disclaimer. You need only state that
this is what history has shown.
> Long story short its caveat emptor, and "you get what you
> pay for." If
> you like you can attach a disclaimer for me everytime I
> post. I'll say
> "thanks" now in advance.
>
> FYI, by definition fraud cannot be "unconscious". The very
> basis for
> fraud is intent. Careful tossin' that word around.
The very basis for _illegal fraud_ is xyz, "intent" can be
nebulous, it depends on the state, and so forth. My meaning
was meant more casually.
You're welcome in advance, because I think there is no doubt
that one's sales pitch is enhanced by speaking as though
past performance represents the future. It's so easily
corrected, grammatically, and it's so important, that I
personally find no excuse for not using the right language.
'specially when you're talking about, what, three years of
ETF data? People have to make a living, and I do support
diversification, but this newsgroup is about a lot more than
people selling their products.
beli...@aol.com
wrote:
<snip>
> You're welcome in advance, because I think there is no doubt
> that one's sales pitch is enhanced by speaking as though
> past performance represents the future. It's so easily
> corrected, grammatically, and it's so important, that I
> personally find no excuse for not using the right language.
>
> 'specially when you're talking about, what, three years of
> ETF data? People have to make a living, and I do support
> diversification, but this newsgroup is about a lot more than
> people selling their products.- Hide quoted text -
Even if an ETF has only been around for three years, it may have an
underlying index with a much longer history and an underlying asset
class with an even longer history. Most ETFs have tracked their
indices pretty closely -- this has been studied. I am sure the
software uses index and asset class data for its historical studies.
As usual you don't know what you are talking about.
If kastnna is trying to sell his products on this newsgroup, he is not
trying very hard. I don't know what his real name is, and there is
nothing in his signature mentioning his company (there would be
nothing wrong with mentioning this). Instead of trying to censor
others, censor yourself!
Michael Siemon
"kastnna" <kas...@auburnalum.org> wrote:
> Sorry Michael, I did a pretty poor job of clarifying myself above. I
> worded it pretty poorly.
>
> FWIW, we can plug in as many or as few asset/indexes as we choose. The
> asset mix we use to simulate an efficient frontier consists of a bunch
> of ETFs that attempt to approach the market portfolio as close as
> possible. As you implied, the difficult part is generating a perfectly
> efficient frontier that actually has a tangency to the market
> portfolio. I an almost certain that our frontier is not 100%
> efficient. What we have found to date, is that no one has brought us a
> portfolio that is any closer. ...
Sure; that's entirely reasonable. My suggestion was that Bernstein,
despite some hyperbolic criticism of MVO tools in his book, supports
this same kind of approach -- his website, after all, is named
"efficient frontier", and stuff on it seems to me to imply that his
consultancy operations work analogously to what you describe above.
beli...@aol.com
Since volatilities are the square roots of the diagonal elements of
the covariance matrix, the simplest approach is to use a single window
and sampling interval to compute the covariance matrix. A good
introduction to estimation methods is Chapter 16 of the book "Modern
Investment Management" by Goldman Sachs Assset Management.
One way to study the goodness of correlation/covariance estimates is
to look at the returns achieved by an optimizer using them as inputs.
The paper below (available by purchase only) tried computing
covariances using 5 years of monthly data and 1 year of daily data.
For long-only portfolios there was not much difference, but for long/
short portfolios daily data looked better.
Minimum-Variance Portfolios in the U.S. Equity Market
Clarke, Roger de Silva, Harindra Thorley, Steven
THE JOURNAL OF PORTFOLIO MANAGEMENT
Fall 2006
In the minimum-variance portfolio, far to the left on the efficient
frontier, security weights are independent of expected security
returns. Portfolios can be constructed using only the estimated
security covariance matrix, without reference to equilibrium expected
or actively forecasted returns. Empirical results illustrate the
practical value of large-scale numerical optimizations using return-
based covariance matrix estimation methodologies, providing new
perspective on the factor characteristics of low-volatility
portfolios. Optimizations that go back to 1968 reveal that the long-
only minimum-variance portfolio has about three-fourths the realized
risk of the capitalization-weighted market portfolio, with higher
average returns.
A working paper by Tal Schwartz at
http://www.departments.bucknell.edu/management/apfa/Dundee%20Papers/27Schwartz.pdf
found good results using 1 year of daily data. The good results may
largely be the result of the 1-year momentum effect, since he
estimates mean returns of stocks using the last year, which I would
not recommend.
These studies look at optimizing a portfolio of stocks rather than
asset classes. Both impose limits on the amount invested in any one
stock, 5% in the latter case.
One can Google "beliavsky realized volatility" in this newsgroup to
find a paper on asset allocation using portfolio optimization and
implemented using futures contracts -- not practical for most people.
Elle
> Even if an ETF has only been around for three years, it
> may have an
> underlying index with a much longer history and an
> underlying asset
> class with an even longer history.
I agree.
Re selling stuff: It's about generating buzz (and IMO not a
few urban legends within that buzz) as much as plugging
one's specific service.
Tad Borek
> Just my opinion, but it serves the "financial critical
> thinking skills" of America etc. well to add an extra
> qualifying sentence (or words) to posts like your previous
> one. Otherwise, one could make a perfectly reasonable
> argument that there's some attempt at fraud (unconscious or
> otherwise) and seduction here when one uses phrases like
> "Our company's allocation is more efficient than yours."
Don't underestimate how much this kind of nonsense -- accusing a
professional poster of fraud in connection with securities -- shuts down
contributions to this newsgroup. At least, contributions from those of
us who actually have access to tools like portfolio optimization software.
I wouldn't dream of talking about what I use, or how I use it, lest my
comments not meet Elle's capricious standards for disclosure,
non-solicitation, and heck grammar. One phone call to a regulator by a
loose-cannon MIFP reader and I'm potentially looking at a one-week
non-routine audit. Why would I bother?
Kastnna, I'm sure plenty of people appreciate your posts...but from
someone else in the biz...consider yourself warned. <sigh>
-Tad
Elle
> Elle wrote:
>> Just my opinion, but it serves the "financial critical
>> thinking skills" of America etc. well to add an extra
>> qualifying sentence (or words) to posts like your
>> previous one. Otherwise, one could make a perfectly
>> reasonable argument that there's some attempt at fraud
>> (unconscious or otherwise) and seduction here when one
>> uses phrases like "Our company's allocation is more
>> efficient than yours."
>
>
> Don't underestimate how much this kind of nonsense --
> accusing a professional poster of fraud in connection with
> securities
See above. That's not what I said.
Elle
> I wouldn't dream of talking about what I use, or how I use
> it, lest my comments not meet Elle's capricious standards
> for disclosure, non-solicitation, and heck grammar. One
> phone call to a regulator by a loose-cannon MIFP reader
> and I'm potentially looking at a one-week non-routine
> audit. Why would I bother?
For the record, IMO Usenet posts hold virtually no water in
a court of law as far as "fraud," inter alia, is concerned.
The reason being that this is part of the free marketplace
of ideas. Like all of Usenet, this is a casual forum where
people are not under a legal obligation for perfection in
writing. I would not dream of reporting, using legal
avenues, anyone here. Such a complaint would make a
laughingstock of the complainer. I am surprised you do not
know this.
I am sorry you have such a problem with dissent in a forum
like this. It is in fact vital to the success of commerce
and industry.
I fully support diversity in one's portfolio. I think the
aforementioned portfolio optimization tools (for fee or not)
are far more likely to do good than bad. My objection
remains that their output should not be presented as being
definitely superior in the future.
Tad Borek
> For the record, IMO Usenet posts hold virtually no water in
> a court of law as far as "fraud," inter alia, is concerned.
> I am surprised you do not know this.
Hmmm, now an expert on securities law. Let describe the reality so you
understand our point of view.
Any written communication, including usenet and bulletin board postings,
can be considered "advertising" under state and federal securities law.
This isn't my opinion -- an auditor told me this. There are very
specific guidelines regarding advertising, and as you might imagine,
"fraud" is a very dirty word in that context.
You may think this isn't the case, or think it's a bad law, but it's the
way it is. This is why we see no registered representatives
(stockbrokers) posting on MIFP, their broker-dealers generally forbid
it. Us independents can decide for ourselves, and believe me, the
compliance attorneys say "don't take the risk!"
The question isn't whether posting here could cause problems, or whether
one reader could cause problems for us -- it's why any of us would even
bother, once there's a risk.
-Tad
Elle
> Any written communication, including usenet and bulletin
> board postings, can be considered "advertising" under
> state and federal securities law. This isn't my opinion --
> an auditor told me this. There are very specific
> guidelines regarding advertising, and as you might
> imagine, "fraud" is a very dirty word in that context.
Nothing stated in this thread constitutes fraudulent
advertising. I am sorry you object to my pointing out an
inaccuracy in a statement on portfolio optimization. Doing
so goes towards educating the public on financial
forecasting, just as pointing out that the many mutual fund
managers who ostensibly "beat the market" in fact according
to studies mostly do not in the future.
The inaccuracy which I pointed out was acknowledged by its
poster. He went on to elaborate that his actual literature
on his software is more precise. No harm, no foul, on Usenet
nor anywhere else. I do enjoy your posts. They're very
revealing. :-)
John Gunn
$PL....@newsread4.news.pas.earthlink.net:
Sadly, Tad is right on. Your posts are ill-informed on the reality of
investmenting and now securites regulation.
Elle
> "Elle" <honda....@nospam.earthlink.net> wrote
Do you think fraudulent advertising did take place here?
Because otherwise, your comments are a non sequitur to my
own.
Both of you need to take your objections up with the poster
who acknowledged his original comments were inaccurate, re
appearing to predict the future. Your determination to
ignore this point and try to chill the marketplace of ideas
is striking.
beli...@aol.com
> I've finally gotten to the point will I would like to optimize my
> portfolio using MPT.
>
> I'm looking for some software (preferably free) that would allow me to
> run what/if scenarios.
>
> Nothing fancy, since I'm planning on investing is ~5 Vanguard Funds
> (Large/Small/International/Growth/Value), but I'm curious what the
> historical performance of various weightings would produce in relation
> to the risk.
>From the web site of the AAII (American Association of Individual
Investors) members can download a program called "Portfolio
Optimization", described as follows:
"Portfolio Optimization uses modern portfolio theory to identify
efficient combinations of stocks and mutual funds with the minimum
level of risk for a specified annual expected portfolio return. It
includes a built-in database with annual returns for the past 10 years
for all stocks in AAII's Stock Investor Pro and all of the mutual
funds in AAII's Quarterly Mutual Fund update. It also plots a graph of
the efficient frontier."
I just played with the software for a few minutes and have some
reservations.
(1) It is a DOS program, which is ok with me, but it crashes when one
specifies a date rate of 2000-2007, since it has data only up to 2006.
That's not how to write a program.
(2) It handles a maximum of 32 securities or mutual funds.
(3) It uses only yearly data.
I am thinking about using portfolio optimization of mutual funds and
ETFs for my own investments. The first hurdle is getting accurate
(adjusted for splits and distributions) daily return data. One can get
daily data for stocks and funds from Yahoo Finance using the Python
programming language using a script at http://rimonbarr.com/repository/pyq/index.html
.
darkn...@yahoo.com
>
> I have a CFA and PhD in physics, have worked as a derivatives
> professional for about 10 years, and I read the major finance
> journals. I have been posting to this newsgroup for some time, and
> people check my history to determine my credibility. You seem to
> believe there is no expertise in finance other than your own. The
> newsgroup would be much better off without you.
FWIW I enjoy your obvious deep knowledge, insight and analysis.
I've sent you a personal email on this topic (from darkness39 (at)
yahoo (dot) com). You might find it illuminating.
kastnna
HW "Skip" Weldon
wrote:
>Don't underestimate how much this kind of nonsense -- accusing a
>professional poster of fraud in connection with securities -- shuts down
>contributions to this newsgroup. At least, contributions from those of
>us who actually have access to tools like portfolio optimization software.
The MIFP charter speaks to this subject. I quote from charter item
#8:
"8. Well-tempered disagreements and constructive criticism to
participants of this newsgroup are acceptable in the context of
adding new information to the discussion. Harassment, personal
insults, attacks and profanity towards group participants will
not be tolerated whatsoever."
According to the online dictionary, "harass" implies systematic
persecution by besieging with repeated annoyances, threats or demands.
IMO a key word here is "repeated".
If anyone feels that they have experienced such treatment on this
newsgroup, please bring it to the attention of the Moderators at their
private email addresses. For more, see the weekly post, "Posting to
misc.invest.financial-plan".
--------------
As usual, please do not respond to this post. Comments on newsgroup
policy should be sent to the Moderators at their private email
address.
Thank you.
-HW "Skip" Weldon
Columbia, SC