Is Modern Portfolio Theory Dead?

By Chief Executive Officer, Vern Sumnicht on February 5, 2015

iSectors’ flagship strategy, the Post-MPT Growth Allocation, has reached a milestone: 10 years of live return data as of Sunday, February 1, 2015. The model’s inception in February 2005 was a precursor to the other 13 iSectors strategies that are offered today. In celebration of the 10 year anniversary of iSectors’ first and most dynamic strategy, the entire month of February will be focused on Post-MPT Growth here on the iSectors blog, as well as on our Twitter account via #PostMPT10. Be sure to follow us: @iSectors, @Chuck_iSectors, and @VernSumnicht.

To start out Post-MPT Appreciation Month, here is our first ever “Throwback Thursday” (aka #TBT) post.  The article (below) was written by iSectors founder and CEO Vern Sumnicht in 2009. The throwback theme is a great way to start the Post-MPT Appreciation Month because the same principles still apply today that applied in 2005, 2009, and even all the way back to the initial introduction of Modern Portfolio Theory in the 1950s. Enjoy the read and join us in wishing Post-MPT Growth a happy 10^th birthday!

Is Modern Portfolio Theory Dead?

I don’t believe MPT is dead. These are the theories derived from Modern Portfolio Theory:

1. Investors are risk adverse. The only acceptable risk is that which is adequately compensated by potential portfolio returns.

2. Markets are efficient. For the most part, markets are fairly priced. It is virtually impossible to know ahead of time (with any degree of certainty) the next direction of the market, as a whole, or of any individual security.

3. The portfolio, as a whole, is more important than individual security selection. The appropriate allocation of capital among asset classes (stocks, bonds, cash, etc.) will have far more influence on long-term portfolio results than the selection of individual securities.

4. Investing should be for the long-term. Investment horizons of ten years or more are critical to investment success because it allows the long-term characteristics of the markets to surface.

5. Every level of risk has an optimal allocation of asset classes that will maximize returns. Conversely, for every level of return, there is an optimal allocation of asset classes that can be determined to minimize risk.

6. Allocating investments among assets with low correlation to each other reduces risk if they’re held long-term. Correlation is the statistical term for the extent to which two assets are similar to one another.

What can an investor disagree with here? The problem, as I see it, is that MPT is not applied appropriately by current advisors. Post-Modern Portfolio Theory and Behavioral Finance give investors and advisors a better road map for applying MPT.

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