This is a fascinating, easy-to-read piece on the formula that persuaded many that risk could, for all practical purposes, be reduced, published in 2000 in a major journal. Bankers and many on Wall Street seized on this formula, ignoring its assumptions:
assumptions:
Tracing the roots of the hypothesis leads one at least back to portfolio managment theory of the 1980's. It was response to the problems of mutual funds. Individuals became convinced it was beyond their grasp to analyze securities, and dumped billions into funds. Portfolio Mgmt texts themselves pointed out the 'theory' was impossible to test (due to computational problems as the article points to), and should thus be 'hypothesis'.
The next 'refinement' I know of is hedge funds, where the theory was leveraged (heavily). LTCM (Long Term Capital Management) has been written about in a short book "When Genius Failed." When the Fed and Congress should have worked to ban the practice, banks wanted to get in on the 'game', or as the article you posted alludes, into the 'gambling'.
We still see it today, with massive amounts of money sloshing around the world like water carried in a bucket. When the majority of stocks move up and down together, that's positive correlation of morons following morons, and in some instances, of following just ONE security analyst. IM(not so)HO, it's ridiculous. Bundles of sticks or twigs. Money managers who do not bother to understand what's in the black box.
The way out of it is a return to analysis of the soundness of individual securities. Higher earnings will influence a stock to higher prices. If we as a society get the SEC back to enforce accurate reporting, and if we can break the mentality of 'big wheel' greed, the "aura" of "financial experts", and the lack of ethics, maybe we can return to a society where individuals make their own investment decisions based on solid facts. It is not hard. I just added shares of Emerson Electric and have not sold any IR in spite of the dividend massacre.
The article you spotted adds to my understanding of the pieces.
dapperdobbs wrote: Elle linked [much snipping for brevity; but all prior comments read]
Yours is an interesting tie-in to the notion that mutual funds get a person diversity which help reduce risk. You back it up well though, in your subsequent paragraphs.
I am not selling my IR, though granted its fundamentals are pretty poor today. (Not sure exactly what you mean re the dividend massacre. Its next dividend payment in June is the same as the one for the last few years. Of course a bunch of financials have had dividend cuts and eliminations.) The only position I have sold was a certain bank for tax write-off purposes last December. Bought a bit of GD a few weeks ago. I remain braced for 15 bad years.
Oddly enough, I bought some IR in the middle of the winter.
i"dapperdobbs" wrote
Are you sure it wasn't overpriced at 95? Are you sure that the stock is just now reflecting its true value? People are funny.
My experience is that determination of true value during an expansion/bull market is just as unlikely to be correct as determination of true value during a contraction/bear market. Both are extremes - the truth is probably somewhere in between.
-HW "Skip" Weldon Columbia, SC
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