To help answer this question — does the Modern Portfolio Theory work? — I will feature another example showing its strengths and weaknesses.
Last week, I introduced the Modern Portfolio Theory. Let’s review. By investing in more than one stock, an investor can reap the benefits of diversification — chief among them, a reduction in the riskiness of the portfolio. MPT quantifies the benefits of diversification, also known as not putting all of your eggs in one basket.
Now, I am all for diversification as long as it is not “diversify and forget.” To explain, let’s examine the performance of five holdings from a follower, since the market bottom in 2009. To date, only one holding (OKE) outperformed the Standard & Poor’s 500. More important, four holdings, MHD, MUH, MZF and PAA grossly underperformed the market.
The experience of having holdings taking off like a rocket while others are trading positive but grossly underperforming the market is not uncommon. This follower held true to the principal of diversification and while two holdings took off, (until 2014) they were asleep at the wheel with the other four holdings.
These holdings were in a managed account. At no point did the follower receive charts (like this one), showing the true performance of their holdings compared to the performance of the market.
So, here are action points to think about:
First, these results in no way represent all diversification results.
Second, diversification does not guarantee profitability.
Third, are your holdings diversified?
Fourth, are your holdings outperforming the market returns?
Fifth, do you receive charts showing your holdings performance compared to the market?
Sixth, if not, why?
In my classes and seminars, I teach that diversification works until it doesn’t – and does not guarantee profitability. You can now see why.
Wall Street makes their money with us being in the market. We make our money with what we own and when.
If interested in learning the many advantages and disadvantages of trading online, using an online broker, attend my Friday, Sept. 8, seminar at John A. Logan College. For more information, visit my website, Davidoengland.com.
Plan your work, work your plan, and share your harvest!