making sense of 100's of funds

John,

The benefits of diversification are a myth, or, more properly, a
nightmare. (They did exist once upon a time, but that was long, long
ago.) 

No, I don't agree with that. The benefits of diversification are not easy to
quantify and maybe less important than in the past, but I would not say that
it is a myth or even a nightmare. 

It is true that financial markets are more and more integrated and that
contagion is usually observed during financial crises, especially on
emerging markets. But the impact of large events and crises are less
important on well diversified portfolio (geographically, different
instruments, different sectors,...). 

I don't think that diversification disappear, but that the way to construct
a diversified portfolio changes over time, as financial markets change.

In today's markets on the way up diversification averages down
returns, while on the way down diversification offers no benefits as
correlations converge on one.

Yes, maybe the correlation should converge on one as financial markets are
more and more integrated. 

But the fact is that correlation measures usually show very unstable
process, and they can changes very rapidly from uncorrelated one to high
correlated markets, especially during crises (see correlations between
emerging markets during the 97 crisis). Then, all this is very different
from a smooth trend toward less diversification gains and more correlation
between world markets.

Having said that, I'll crawl into my bunker and await the incoming.

Don't crawl into your bunker, it is an interesting topic, and not only for
banks and portfolio managers. I would be interested to know more about your
ideas on that.


---
Sylvain Barth?l?my
Research Director, TAC
www.tac-financial.com | www.sylbarth.com


-----Message d'origine-----
De?: r-sig-finance-bounces at stat.math.ethz.ch
[mailto:r-sig-finance-bounces at stat.math.ethz.ch] De la part de BBands
Envoy??: mardi 21 ao?t 2007 17:09
??: R-sig-finance
Objet?: [R-SIG-Finance] making sense of 100's of funds

John,

The ranking idea sounds quite attractive.  If I understand you right
though it wouldn't necessarily give me "diversity" metrics whatever they
might be.  Ie as well as risk/reward of individual funds I would somehow
want to achieve a mix of funds that did *not* correlate well
(performance aside).

So I am thinking along the lines of, when faced with 200+ funds:

        - Put them in groups of highly correlated returns.

        - Select from each group based on my preferred performance

criteria.

Maybe at this stage I would focus more on reward than risk.

        - Then put together some kind of portfolio from this much smaller

set

based on holistic metrics with a balance of risk and reward that I am
comfortable with.

Then presumably repeat parts of the process at intervals yet to be
determined.

I feared we'd get here.

The benefits of diversification are a myth, or, more properly, a
nightmare. (They did exist once upon a time, but that was long, long
ago.) In today's markets on the way up diversification averages down
returns, while on the way down diversification offers no benefits as
correlations converge on one.

Having said that, I'll crawl into my bunker and await the incoming.

    jab
--
John Bollinger, CFA, CMT
www.BollingerBands.com

If you advance far enough, you arrive at the beginning.

_______________________________________________
R-SIG-Finance at stat.math.ethz.ch mailing list
https://stat.ethz.ch/mailman/listinfo/r-sig-finance
-- Subscriber-posting only. 
-- If you want to post, subscribe first.