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03/06/2005: "Updated index for: Asset allocation"

Why bonds are not good diversifiers: a primer
This article explains the errors in conventional thinking about the absolute and relative risks of fixed income investments (gilts or corporates) that have no inflation indexation, and how those errors impact asset allocation in financial planning, private client portfolio management and product design and description. The arguments rely on three key No Monkey Business 'distinctions': real versus nominal (or money illusion); path risk versus outcome risk; total return versus income returns or capital returns.

Can holding debt make more sense than holding assets?
When a portfolio has the goal of achieving long-term outcomes expressed in terms of purchasing power, the basic building blocks that are easily and cheaply accessible are equities and index-linked gilts. Other 'real' assets like property and commodities are desirable but not necessary. Non-inflation indexed bonds are useless in these terms. Only very wealthy people can afford to fund their goals with no market risk and no inflation risk, by preferring index linked gilts over equities. This applies to the new low-cost pension accounts as well as to final-salary schemes. No surprises here: everything from pensions to government tax-raising hangs on equity-based risks. We live with them. We might as well try to understand them better.

Asset allocation: what it means for financial planning
Stuart Fowler's article in an e-journal for technology provider 1st Software was intended for IFAs but it is not too technical and it can be useful for customers to see it from a professional's perspective. Asset allocation literally means exposure to different types of asset, hence 'where your money is put to work'. It treats asset types (such as deposits, fixed income investments and equities) as 'building blocks' for assembling in simple or complex ways to achieve a customer's goals. Asset allocation should be at the heart of the advice process, but that is no guarantee it will be.

Asset allocation and 'the 90% rule': the Ibbotson paper
In No Monkey Business the importance of asset allocation in explaining where portfolio returns come from is related to 'the 90% rule'. The book explains how this is often misunderstood and hence misrepresented and refers to a short article by two principals of Ibbotson Associates who set the record right with a paper called Does asset allocation explain 40%, 90% or 100% of performance? The answer is all three - depending on how you define performance. Here's the article - from their website.

The 'mean reversion' debate
Mean reversion in real equity returns is hotly disputed amongst academics. If financial planners assume markets are random at all time horizons, the effects include raising the resources indicated as being required to achieve an objective and increasing the attraction of bonds relative to equities in any mean-variance asset allocation process. In this technical feature from the old website Stuart Fowler seeks to justfiy his own faith in mean reversion.