Gyroscopic Investing

I will get thirtsy, hungry, I might get a headache, and I might need suncreen.

I don't know how likely these events are, so I will be agnostic in how I prepare for this trip.

1 kilo of water, 1 kilo of food, 1 kilo of aspirin, and a 1 kilo of sunscreen. Perfectly unbiased, agnostic. 25% - 25% - 25% - 25%

Ready to travel? Doesn't it sound like we've prepared well?

Just pack 4 kilos of cash until you understand the land you are visiting.

Ignorance is not the same as agnosticism.  After you set foot on your new land - after you see the lives and risks of its inhabitants and the functioning of its authorities - you will be better able to allocate your assets.

4 kilos seems on the light side

You forgot your kilo of gold coins. 

BTW, if your four possible trip conditions are hunger/thirst/headache/sunburn then you might want to read up on vacationing before you go. 

ochotona wrote: I will get thirtsy, hungry, I might get a headache, and I might need suncreen.

I don't know how likely these events are, so I will be agnostic in how I prepare for this trip.

1 kilo of water, 1 kilo of food, 1 kilo of aspirin, and a 1 kilo of sunscreen. Perfectly unbiased, agnostic. 25% - 25% - 25% - 25%

Ready to travel? Doesn't it sound like we've prepared well?

I'm guessing you meant this in the vein of mocking the 25% allocations to the four sectors based on being agnostic about the future.

In which case your comparison is pretty silly. But I'm going to give you credit for already realizing that. I've posted a lot of silly stuff myself. Especially when I'm drunk.

Not drunk, but way tired!

But I think the point is still valid... the appropriate amount of each cure is not the same number of units, even if you think the four events are equiprobable.

ochotona wrote: Not drunk, but way tired!

But I think the point is still valid... the appropriate amount of each cure is not the same number of units, even if you think the four events are equiprobable.

"cure"?

madbean wrote:

ochotona wrote: Not drunk, but way tired!

But I think the point is still valid... the appropriate amount of each cure is not the same number of units, even if you think the four events are equiprobable.

"cure"?

Remedy... countermeasure... whatever language you prefer.

ochotona wrote:

madbean wrote:

ochotona wrote: Not drunk, but way tired!

But I think the point is still valid... the appropriate amount of each cure is not the same number of units, even if you think the four events are equiprobable.

"cure"?

Remedy... countermeasure... whatever language you prefer.

Okay, I think I understand. You see each segment of the PP as a remedy or countermeasure for something bad that can happen in the economy.  I see your point and it probably isn't far off from HB's thinking, if at all.

So do you have a formula you use to calculate the appropriate amount of each cure?

Back testing is all I have.

ochotona wrote: Back testing is all I have.

I'm agnostic about back testing too.

madbean wrote: So do you have a formula you use to calculate the appropriate amount of each cure?

ochotona wrote: Back testing is all I have.

There's been a fair amount of discussion about using volatility adjusted weightings, rather than 25/25/25/25 - e.g. this thread.  This requires picking some timeframe (the past year or the past N years) over which you're going to compute volatility and then reevaluating your allocation every month (?), or quarter, or year - and is going to end up with something pretty close to 25/25/25/25.

My guess is Browne understood this and considered 25/25/25/25 a "good enough" answer.  Will this be optimal over the next 1 year, or the next 5 years, or the next 20 years - or match what the allocation "should" be based on volatility computations covering the last 1 year, or the last 5 years, or the last 20 years?  Almost certainly no.

Will some other allocation do better?  Almost certainly yes.

However, with Browne's 25/25/25/25 allocation you won't ever lose your shirt.  And picking some other allocation means, one way or another, predicting the future.  If your volatility computations are based on the last N years, you're predicting that this past volatility has some bearing on the volatility in the future.  One basis of Modern Portfolio Theory is that returns of a particular asset are normally distributed.  This assumption is almost certainly not true - asset returns more likely exhibit fat tail distributions.

What to do?  What to do?

Browne's solution is extremely elegant.  Change your focus from optimal asset allocation per MPT to an asset allocation that preserves your assets no matter what economic condition is currently prevalent.  What might these be?  Browne identified inflation, deflation, prosperity, and recession/depression.  The 25/25/25/25 PP asset allocation is not meant to be optimal based on MPT - it's meant to protect your assets in any of these economic conditions (and SHTF scenarios like total currency collapse).  It also happens to be pretty close to an optimal MPT allocation, but IMO this is essentially a coincidence.

Optimizing the PP allocation based on MPT calculations is completely missing the point.

rickb wrote: There's been a fair amount of discussion about using volatility adjusted weightings, rather than 25/25/25/25 - e.g. this thread.  This requires picking some timeframe (the past year or the past N years) over which you're going to compute volatility and then reevaluating your allocation every month (?), or quarter, or year - and is going to end up with something pretty close to 25/25/25/25.

It doesn't require picking a timeframe other than one of using all available historical data.  Simple.  There's an intentional stupidity in doing that just as there is in the 1987 simplification of the PRPFX into four dumb 25% weightings by HB.  In both cases, you are relying on the long-term averages of the correlations, volatilities and economic environment durations and ignoring the short-term.