by James Picerno
Reviewed by Jon Ford, CFP®
Jon Ford, CFP®, of CF Financial Planning Solutions, Inc. in Mesa, Arizona, writes a regular "Financial Fundamentals" column for the Cedar Falls Times in Iowa.
Dynamic Asset Allocation suggests we can do a better job managing asset allocation for our clients and promises us a valuable roadmap as we make the journey. Picerno does this in a gripping manner, beginning with Ben Graham and interestingly enough, ending with Ben Graham and his emphasis on valuation strategies.
The route traveled by readers takes us through 10 chapters, starting in 1914 when investing was a sort of exotic activity, there was no SEC, and 60 percent of the New York Stock Exchange consisted of railroad stocks. The book is quite a rigorous undertaking, and Picerno spares no time and detail to alert us to the changing role and metamorphosis that influences 21st century asset allocation methods. He does this systematically, clearly and comprehensively by amassing asset allocation research and opinion during the past century, with a particularly comprehensive focus on post-Modern Portfolio Theory improvement efforts during the past 50 years. I thought it was an extremely well-written compilation.
Readers will recognize the familiar ideas of Markowitz's Modern Portfolio Theory, Tobin's introduction of the modern age of asset allocation with the "super efficient portfolio," and Sharp's CAPM with alpha and beta risk factors. It was Sharp's work that ushered in the reality (or illusion) of "chasing alpha," that pushes money managers to create mysterious portfolios that beat the market.
We are reminded of the efficient market hypothesis, Dow Theory and the difficulties with Modern Portfolio Theory. We can see why the development of index and sector funds added a striking likelihood that portfolio managers could actually do better than Mr. Market if he played his correlations and allocations right.
From here it just gets more exciting as the author takes us through debates, refinements, and the evolution of the random walk, CAPM, and the seemingly endless supply of unique betas. When understood and accounted for within a portfolio, betas have the potential to provide even greater rates of return. Business and market cycles and the limits of tactical asset allocation are taken into account as they impact clients' portfolios.
The author's finale is that every portfolio should "own the market," meaning the global market. Even if that may not be possible for most investors, it remains the strategic benchmark and includes stocks, bonds, REITS, and commodities. The extent to which a portfolio varies from the global market depends on individual investors' differences-time horizons, risk tolerances, investment objectives, and the like. From there rebalancing is critical, although how and when to rebalance varies according to unique investor traits.
I was hoping for a bit more convergence toward the end, but the research of dependent variables and their associated qualifications (exceptions and exceptions to exceptions) kept that from happening. Serious portfolio managers will like this book. Picerno makes a significant contribution to what we know about adding value to our work with clients' portfolios.
Bloomberg Press (2010)