Bro, What Does That Even Mean?

Richard Ennis had a short post about what he called scattershot diversification on the part of endowments and foundations. The last paragraph of the post as follows.

There is nothing elegant about portfolio construction today. In fact, it seems almost primitive. Institutions own a jumble of equity things — nearly countless, largely illiquid and beyond their control. And they diversify via costly managed portfolios, something finance theorists frown upon as not being cost-effective. This is the story of scattershot diversification.

His use of the word elegant is the catalyst for this post. Maybe I should understand that but I don't. The rest of the passage fills it in some. Copilot was able to add some color.

Plain vanilla 60/40 is elegant, Copilot says, because it is simple. Factor-based portfolio construction is elegant because it is "based on academic research." A couple of other "elegant" examples are core and satellite and even risk parity but it notes that with risk parity, elegance can erode. 

Things like private placements are inelegant due to the expense, lack of transparency and lack of simplicity. Ennis does not believe the use of alternatives is applied scientifically, he believes that the way endowment portfolios are constructed, that they are over diversified. 

I guess the first point of portfolio construction is that any portfolio you build and manage for yourself, or that you outsource to an advisor, has to be one that you can live with. The second priority might be that there is some reasonable basis to believe it can do what you need it to do. Putting 95% in T-bills and 5% into a soda stock is not going to provide much opportunity for growth if that is what the end user needs. Maybe, it will keep up with CPI or even do a little better but that allocation is about low risk capital preservation. 

All we ever said about the huge allocation to various types of private equity/VC pools that endowments have had for a while has been along the lines of they must think they need that but that's not going to work here. Replicating isn't so easy either for anyone interested in trying. Now with all the craziness between universities and the federal government causing the endowments to try to sell down some of these investments, maybe these allocations were not something they could live with after all. 

My belief in a lot of simplicity, hedged with a little complexity can scale up to any size. Maybe for an endowment the size of the Harvard Management Company, some of the complexity piece (like managed futures, macro or arbitrages) should be in private pools but 90% in simple exchanged traded assets are obviously plenty liquid which is a problem that Harvard reportedly has needing to sell some of its illiquid holdings and looking a serious discounts to get it done. 

I still don't fully understand the use of the word elegant for having an overly complex portfolio or having a portfolio that turned out to not meet the end user's need but that's ok. 

A quick follow up, more of a coincidence actually. Early on Sunday we had a small project at one of the fire department substations where we house a water tender. The logs around the perimeter of the driveway had rotted and needed to be replaced for erosion control. The rotted logs had been removed, freshly cut logs had been left and we just need to place them and secure them in with some rebar. 

There were four of us and not of my doing the conversation turned to retirement issues related to sustainable withdrawal rates for the most part. One of the four though is younger, he's 47, only been in Walker for a couple of years and is working remotely. He talked about retiring in 20 years but somewhere he picked up a retirement number that sounds very big to him. Whether it really is big or not isn't the point, it seems big to him. 

I told him the number is meaningless. That in the time I've been in Walker I've seen people make it because there was no alternative, they have to make it. "You'll make it work one way or another because you have to, don't worry about that number." He understood the point. I'm not sure it made him feel better, but he understood. 

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