In a Dec. 23, 2011 article, New York Times columnist Ron Lieber wrote about my personal investment strategy, which can be described as a low-beta/high-tilt (to small and value stocks) portfolio. I want to circle back to it to illuminate important points about diversification.
Lieber called it the “Larry Portfolio,” or the “LP,” as we like to call it. My colleague Kevin Grogan and I recently published a book that provides the concepts and historical evidence demonstrating that the “LP” has earned superior risk-adjusted returns that produce a higher Sharpe ratio than that of a marketlike portfolio, with much smaller worst-case losses.
The following is from the introduction of our book, “Reducing the Risk of Black Swans: Using the Science of Investing to Capture Returns with Less Volatility.”
“This book was written for those looking to expand their knowledge of the passive investing world. In this world, evidence and academia are used to design portfolios, not instincts, opinions, or ego. Whether you are an advisor looking to better serve your clients, an investor looking to become more knowledgeable on the workings of your portfolio, or, even a financial oracle, you will benefit from this book.
“While it is short in length, its content is heavy. It is data-rich and full of detailed examples. The empty rhetoric or the distracting noise often heard in the active investment world has no place here. Science and hard data make our case. There is no need for elaborate prose or the hyperbolic statements so often heard on the other side of the investing aisle.
“You are about to embark on a journey that we hope will be both informative and of great value. It is a roadmap to the Holy Grail of investing—the search for an investment strategy that can deliver higher returns without increased risk or the same return with reduced risk.”
While historically, the “LP” has delivered superior results to a market-like portfolio, one concern investors have expressed is that “it is not a well-diversified portfolio.” To address that question, there is a section devoted to the issue. The following discussion is derived from the book.