As I think about this more broadly, the idea that a target allocation can be successfully modified in a manner that improves returns and reduces volatility brings into question the idea of market efficiency–that assets are always priced correctly according to all available news and information. My opinion on the matter is somewhat frank. As a scientist I recognize that the efficient market hypothesis is, as of today, an idea and a theory–not a law. Gravity and conservation of energy are physical laws. They can be proven, observed and documented. As governing principles we use these laws to understand how real world systems function with a high degree of certainty.
Markets on the other hand, have no such laws. Participants aren’t always rational. They are without a doubt emotional, and I too fall into this category. The so called wisdom of crowds, as it turns out, isn’t always very wise. Bubbles and mania occur every so often, causing assets to be mispriced, which may result in catastrophic crashes. Financial history has shown that such events have happened before and will happen again.
- Daniel Sotiroff
Is there a scientific answer to all investment questions?
I don’t think so, even as a proponent of evidence-based investing. In fact, this doubt has led me to propose a panel for our upcoming EBI conference titled “The Limitations of Evidence,” and it’s meant to put a skeptical cap on a full day’s worth of the event’s primary subject matter.
The danger here is that we give ourselves wholly over to scientism, neglecting the roles of common sense and experiential wisdom, for our portfolios. Scientism can be defined as:
Scientism is a belief in the universal applicability of the scientific method and approach, and the view that empirical science constitutes the most “authoritative” worldview or the most valuable part of human learning—to the exclusion of other viewpoints.
This seems to be the direction things are heading, in all facets of life (save for politics, where facts don’t matter anymore). Even in pop culture this applies, as the movie studios have used science to determine that the only films worth investing large sums in are sequels, prequels and comic book superheroes.
I don’t know that investing will ever become the province of pure science, given the absence of bankable laws, like those you find in physics. That said, if given the choice, I’d prefer to lean on what the science says more heavily than on the alternatives (convention, superstition, the Great Man Theory, etc).
We don’t have perfect evidence in the realm of investment, but we do have pretty good evidence about a lot of important things.