We believe that investment models based on real-life information are superior to other investment strategies created on unrealistic assumptions and subjective forecasts.
We use quantitative analysis, advanced computing software and specialized historical databases to design and test our investment signals and algorithms.
We design and manage alternative investment models seeking to outperform common asset allocation strategies and most asset classes over a full market cycle or more.
We place the greates emphasis on consistent returns and lower risk of loss.
We can achieve our goals only if we decouple from attempts to outperform stocks or other benchmarks over the short term: a month, a quarter, a year or even a few years.
Make high quality investment management and advice easily available to all investors, large and small.
Is the Modern Portfolio Theory correct?
Are common portfolios "optimal", meaning: do they have the lowest possible risk at any given expected return?
Why are such optimal portfolios experiencing such heavy losses during crises?
How is it possible for some managers to generate such high returns with lower risk for so long?
Can their superior performance be replicated?
Do we need billions of dollars under management and access to special deals to do better than average?
If MPT is incorrect, how can nearly everyone be wrong?
Our Quest for Knowledge
We started with the observation that a few of the very large and sophisticated investors are able to generate consistently high returns sustained over long periods of time. These include a select group of sovereign wealth funds, hedge funds and a few university endowment funds.
According to Modern Portfolio Theory or MPT, those kinds of results should not exist or otherwise must be due to chance. However, long track records spanning multiple decades and widely diversified portfolios make it statistically impossible to attribute such performance to luck.
We know that many investors have been hurt by two major stock market crashes in the last twenty years. They have little trust in the same conventional products and strategies based on MPT models but have limited other choices.
So we started by asking a few questions:
The road to wisdom was not easy and was certainly not short. It took more than ten years to get where we are today.
Briefly, here are the answers we found to the questions we posed initially. To read more, follow past and future articles and papers on our blog. And, as we continue our research, we may find even better answers.
The Failings of Modern Portfolio Theory
Empirically, we have noticed that MPT-optimized portfolios occasionally crash in a big way. This is similar to a bridge experiences major cracks or collapses every few years. Clearly, something like that would make us question the design or the quality of construction.
We find that in the case of the Modern Portfolio Theory, the construction and the calculations are both correct. However, the assumptions on which the math is created are far removed from reality. For example, MPT assumes that all investors are risk averse and rational; that they have complete and perfect information; that they are all able to borrow infinitely at the same rates as the government; that they pay no taxes and that prices of securities don't change as a result of buying or selling. There are also some statistical assumptions that returns are normally distributed and that covariances between asset classes are stable. They are not!
Another implicit assumption is that future returns and volatility can be both forecasted. Experience shows that they cannot! However, these are crucial inputs in building the model and accuracy is key.
Continuing the brige analogy, this situation is similar to the architects making correct calculations but assuming that there is no wind, no earthquakes and the temperature is always constant. A brige built based on those assumptions might stand for a while but, eventually, it is destined to fall.
Those who defend MPT point to the fact that over the short term, various aspects tend to hold true. But that is a logically flawed argument just as saying that a bridge which stood for a few years in fair weather and light traffic has a sound design.
Finally, we have point out the fact that MPT is still termed a "theory" after more than sixty years and multiple Nobel Prizes awarded in connection with it. The reason is that MPT cannot be proved or demonstrated correct as long as its foundational assumptions are imaginary. Therefore, it can best be described as a work of Science-Fiction.
It is a fact that certain managers have been able to generate risk-adjusted returns that are far superior to "optimal" portfolios constructed based on MPT. Statistically, their track record cannot be explained by pure luck. Therefore, we know that what MPT deems impossible is in fact possible. In turn, that leads to the conclussion that MPT is in fact incorrect.
Investing in endowment funds or sovereign wealth funds is not open to outsiders. Also, investing in hedge funds and private equity funds is not available to most investors. However, we found that there may be other ways to improve risk adjusted returns that can produce similar or better results.
Focus on Crises
A key observation is that periods of severe market declines are during crises are the most damaging for long term performance. Avoiding these large losses can make a huge difference to overall returns and volatility.
On the other hand, trying to outperform an equity index during periods of relative calm and expansion generally leads to incurring heavier losses during market crashes. Most active investment managers who try this approach find themselves either underperforming consistently or outperforming during market booms and giving back all the gains during busts.
AERIUS models are not designed to outperform any particular benchmark during equity bull markets. Simply participating in the gains and generating relatively consistent returns is sufficient. Instead, the AERIUS models focus on reducing or eliminating losses during bear markets. If possible, they even attempt to generate small gains during these times by investing in securities that increase in value when most stocks experience heavy losses.
Periods of bull and bear markets are likely to happen in the future because human nature is prone to excess. Periods of expansion tend to culminate in irrational exuberance where valuations are pushed beyond normal limits and debt increases to unsustainable levels. When asset bubbles form and the financial system becomes highly levered, it doesn't take much to produce a domino effect that ends in a sharp correction.
Research shows that severe declines in the stock market are not entirely unpredictible. Our proprietary Risk Signal has been a reliable indicator of all major stock market crashes in the last thirty years. By including this signal in the model design along with careful security selection and rebalancing, we found outcomes that meet our objectives for superior long-term return with lower risk of loss compared to conventional MPT-based models.
Explaining the Prevalence of MPT
One of the most difficult things to explain is the rationale behind the continued acceptance of Modern Portfolio Theory by mainstream investment managers despite the evidence of failure.
Like with any complex issue, there are many reasons. But we know from history that it is possible for the conventional wisdom and the "expert" knowledge to be wrong for extended periods of time. For example, bloodletting was conventional "medical" practice two centuries ago. Medics recommended it for most diseases and patients believed it can cure them. Later it was understood that it does no good but it can potentially cause much harm. George Washington died as a result of bleeding and vomiting induced by the best doctors of his time in the attempt to cure a sore throat.
Perhaps the main reason for MPT's current prevalence is the fact that there is nothing else comparable to take its place. MPT boasts the pedigree of academic research crowned by Nobel Prizes. Despite still being a theory it inspires the confidence of scientific fact due to its packaging in an elegant statistical math. As such, it is still highly marketable.
Most investors and investment committees staffed by non-professionals don't have the background or the inclination to understand the entire mathematical and logical structure of the theory. Those who might sense that something is amiss may not have the fortitude to question the logic of academics with impressive credentials.
Portfolio managers are evaluated relative to benchmarks and most asset allocation benchmarks are based on MPT. Investors have little patience with managers that underperform their benchmark. For these managers, long-term performance is vastly less important than tracking the benchmark closely from quarter to quarter or even monthly. The only way guaranteed to track the benchmark closely is to replicate it with minor adjustments. For most managers embracing MPT, despite what they personally think of it, is a matter of job security.
Lastly, central to MPT are the expectations of future returns. By definition, investment managers must assume that all asset classes and equities in particular, will have positive returns. The expected returns tend to be relatively constant regardless of how high or how low the valuations may be at any given time. For this reason, portfolio allocation percentages tend to change little between times when asset valuations are low and when valuations are high.
A Scientific Method
We prefer to draw our conclusions and build our models based on empirical evidence and observations of what is real. By studying the historical fundamental and market data we find patterns that tend to repeat. We constantly experiment and measure the validity of our hypotheses and models against existing hard data and new data coming in.
We disagree with the utopian model of perfect markets and the omniscience of investors. Instead acknowledge the real factors that can influence markets such as fear, greed, biases, informational limits, liquidity restraints, leverage, manipulation, interventions and countless other non-rational behaviors.
History demonstrates that free markets can experience large swings and excesses during boom times which can lead to sharp reversals and painful busts. Expectations of future returns cannot be constant and must reflect the current fundamentals and valuations.
All economies tend to be cyclical and capitalist economies are more so. Many investors look at economic growth as a driver of asset values. In reality, financial conditions and confidence drive asset values which in turn drive economic expansion or contraction. Financial conditions include availability of credit, borrowing costs and demand for credit. Being able to successfully navigate the cycles requires a sound independent approach free of unrealistic constraints.
We believe the best way to protect and grow client assets is by having the intellectual honesty to admit what is real and what is not, understand our limitations and seek to excel in areas where we can make a difference. We hope that some people and organizations join us in our quest to bring reason and integrity to investing and build wealth in the process.
Pure Investment Advisers
Pure Investment Advisers is an independent registered investment adviser serving institutions, family offices and individuals. It specializes in quantitative models for asset allocation and portfolio management designed to optimize long-term returns and minimize the risk of large losses.
The fee-only structure aligns the interests of the adviser with the interests of clients while independence ensures that advice is free of conflicts of interest.
Pure Investment Advisers places a strong emphasis on developing superior, proprietary investment management models that can outperform other strategies and products in the same asset allocation category. In addition, it seeks to provide one of the lowest cost structures for management and brokerage fees.
Robert Andriano, CFA is the Principal and Chief Investment Officer of Pure Investment Advisers. He is conducting groundbreaking work on long-term portfolio optimization using fundamental and quantitative analysis, modeling and applying non-conventional economic theory.
Having received a masters degree in electronics engineering, Robert's experience is grounded in building machines and systems that obey the laws of physics and work in real life. He is a long-time "student" of financial markets, starting his career on Wall Steet in the 1980's designing and writing the software for trading and risk management systems at leading financial institutions.
Robert has earned the Chartered Financial Analyst (CFA) designation, considered the "gold standard" in the investment management profession. He is an active member of the CFA Institute and the New York Society of Security Analysis (NYSSA).
Robert is the Chairman Emeritus of the NYSSA Market Integrity committee where he continues to promote the highest standards of ethics and professionalism in investment management. He advocates for a strong Fiduciary Standard that promotes professionalism and puts the interests of clients first.
Nick Gogerty, CAIA, is the founder of Thoughtful Capital Group, a value research and portfolio allocation consultancy firm in Greenwich, CT. In the past, he worked with one of the world’s largest hedge funds and conducted a risk analysis of the "Flash-Crash" at one of the largest US banks. He was also a quantitative FOREX analyst at another $2 trillion+ bank, the chief analyst at Starlab a multi-disciplinary science research institute and a portfolio manager at a value-focused hedge fund. He created risk models for global banks and ran the T-bond option futures pits at the Chicago Board of Trade (CBOT).
Nick's lifelong interest has been in studying global, complex problems and developing solutions for sustainable economic development and poverty reduction. He is the author of "The Nature of Value" published by Columbia Business School. He studied Cultural and Economic Anthropology and Art History at the University of Iowa and received an MBA from the École Nationale des Ponts et Chaussées in Paris. Nick holds the CAIA, Chartered Alternative Investment Association, designation. In the past, he has held series 3, 7, 63 and UK FSA registrations.
Buying and selling securities requires the services of a broker who manages trade orders, accesses various electronic exchanges where securities are traded, has agreements and networking connections with mutual fund companies, manages cash payments, provides statements and accounting. The custodian is the safekeeper of the securities and cash in the account. This could be a business affiliated with the broker or a third party.
Client accounts managed by Pure Investment Advisers are held at Folio Institutional as broker and custodian. Folio is not affiliated with Pure Investment Advisers and simply provides services as a third-party. Advisory clients of Pure Investment Advisers are also brokerage and custody clients of Folio Institutional. As such, they can access Folio's customer service facilities online and on the phone for account-related needs such as transfering cash or securities, online access, reporting, etc.
Folio Institutional is a division of FolioFn Investments Inc. founded in 2000 by Steven M.H. Wallman, a former commissioner of the U.S. Securities and Exchange Commission(SEC).
Folio has been a self-clearing broker-dealer and a directmember of the Depository Trust & Clearing Corporation (DTCC) since 2001. Today, they provide custody and brokerage services for billions of dollars of investor assets.
As a member of SIPC and FDIC, Folio provides insurance coverage for cash and securities as prescribed by the two agencies. Read more about Folio client services at: