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Concentration During Periods Of High Volatility

One common question Alpha Theory has received on the Concentration Manifesto is, “would the Monte Carlo simulation hold during periods of market turbulence?” Read more to discover our findings.

As we’ve gotten feedback about the Concentration Manifesto, one common question is, “would the Monte Carlo simulation hold during periods of market turbulence?” To stress test the conclusion, we chose two periods of high volatility. The 12 months between June 2008 and June 2009 (high positive and negative volatility) and the 12 months ended February 2009 (the months leading up to market nadir).

While the results showed lower overall alpha returns for both portfolios during the financial crisis, the concentrated portfolio still outperforms and is safer than the diversified portfolio. This is due to maintaining the improved batting average during those periods.

June 2008 to June 2009

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We reran this analysis for the 12 months leading up to 2/28/2009 and the relationship still holds. The difference in timeframes mainly impacts the alpha return for the two portfolios. Again, the separation between the portfolios is driven by the batting average difference between the concentration and diversified portfolios.

Trailing Twelve Months Ending February 2009

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It’s worth noting that since we don’t have data prior to 2011, the assumption is that the batting average between these two portfolios remains consistent over time.  We did look at batting averages for the timeframes we have in our database and it appears to be relatively consistent except for a dip in June 2015. Note that this batting average includes all portfolios and is on an alpha basis, but does not assume fees. The goal was to look for some consistency over time.

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The Concentration Manifesto has become a part of the conversation about how to improve active management. Please keep the feedback and questions coming.

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