Advisor Perspectives ran a recent article by Sitka Pacific’s J.J. Abodeely. There was a fantastic quotation he pulled out from Ben Inker at GMO:
“The good news is that in the investment business there are very few people who do real asset allocation and actually move money around in an aggressive way,” Inker said. “It’s a tough thing to do and survive. The nice thing about it, and the reason why we do it, is because this means it’s an inefficiency that is not going to get arbitraged away anytime soon.”
We’ve written in the past about this exact feature of many winning investment strategies: the arbitrage involved is behavioral, not financial. Good returns derived from uncomfortable strategies do not get arbitraged away, because very few people will actually do it. In other words, if you look at your portfolio and get a warm, fuzzy feeling, you’re probably doing it wrong.
Simple examples of this phenomenon abound. Here’s one: to lose weight 1) eat less and 2) exercise more. Have I now arbitraged away the entire diet book industry because I just gave you the basic advice for free? Of course not! When I searched Amazon for “The * Diet,” I got 65,338 results (!!), ranging from The Warrior Diet to Crazy Sexy Diet to The Juice Lady’s Turbo Diet. Although I am in awe of publishers’ ingenuity in coming up with great book titles, none of these diets will necessarily work any better than my basic advice. The reason people struggle to lose weight is not because reasonable advice is not readily available; it’s because the advice is hard to implement. Eating less and exercising more is simply less comfortable than our default position of eating more and exercising less!
Relative strength is often an uncomfortable strategy whether it is implemented in equities or global asset classes simply because the portfolios can deviate significantly from the market or from traditional notions of asset allocation. On the plus side, it may give you some comfort to realize that relative strength methods have shown excellent returns for many decades—returns that are not likely to be arbitraged away unless human nature undergoes a substantial change.
Source: www.samdiener.com
