Roundtable continued from page 39 cast. In economic terms, that means, if inflation is currently 3 percent, you project 3 percent. In other words, they were no better than monkeys throwing darts. He found that even the forecasts from the people who impact the out<strong>com</strong>e—the Congressional Budget Office, the Council of Economic Advisers and the Federal Reserve—and therefore have some degree of controlling it, were not more accurate. However, a recently published paper found that taking a consensus forecast—while it’s not a good forecast—is better than most. The Philly Fed Survey forecasts inflation of roughly 2.5 percent. And, by the way, there is a swap market for inflation; it was also at about 2.5 percent not too long ago. JOI: Have you adjusted your investment philosophy during the last two years? Swedroe: [We have adjusted] nothing. For 15 years we had exactly the same investment philosophy because our advice is based upon what I would call the science of investing and evidence-based investing. The evidence today is—if anything— stronger that passive management is the strategy most likely to allow you to achieve your financial goals. The only thing that we’ve done in the last 15 years is added re<strong>com</strong>mendations that investors consider adding a small allocation to <strong>com</strong>modities. With the advent of TIPS, we began to strongly re<strong>com</strong>mend that people use TIPS as the dominant portion of their fixedin<strong>com</strong>e portfolio in tax-advantaged accounts. Another minor thing is that we have adjusted our international allocation over time. Fifteen years ago, I think we were re<strong>com</strong>mending 30 percent U.S. Now we are re<strong>com</strong>mending 40 percent. If we were pure market-cap weighters, we would be at 60 percent international. But we think there are logical arguments for having some home-country bias. JOI: What’s the biggest danger/opportunity that you see ahead for investors during the next five years? Swedroe: I think the biggest danger for investors is what they see when they look in the mirror. The second [biggest danger] is ignorance, because they don’t know the science of investing. They are tempted by the wolves of Wall Street and their advice. The third thing I would say is, if they can’t resist watching CNBC, they should do it with the mute button on. Because what they are likely to hear could only cause damage by stirring the emotions of fear and envy in bear markets, and greed and envy in bull markets. The best strategy is what Warren Buffett advises: “Invest in index funds and stay the course.” Moran continued from page 14 return was improved by 3.5 percentage points and the portfolio standard deviation was cut by one-third. If there were a 3 percent allocation to 25 percent-out-of-the-money long VIX calls during that time period, the portfolio’s annualized returns were increased by 10.4 percentage points. 2 VIX and the S&P 500 often have had a negative correlation of returns, and investors have been intrigued by the possibility that VIX could provide value because there often has been high volatility of volatility in difficult investing environments (the historic volatility of VIX daily returns in 2008 was 127 percent). Investors who are bullish on VIX and bearish on stocks might consider: (1) long VIX call options, (2) long VIX call spreads, (3) short VIX put credit spreads, or (4) long VIX futures. Investors who are bearish on VIX and bullish on stocks might consider: (1) long VIX put options, (2) long VIX put spreads, (3) short VIX call credit spreads, and (4) short VIX futures. One cautionary note is that sometimes VIX and stock prices move in the same direction. Conclusion A triple whammy of record-high correlations, very high volatility and huge losses for dozens of indexes made the year 2008 a very challenging one for most investors. In the past two years, investors were disappointed to see that correlations for the S&P GSCI and the MSCI EAFE vs. the S&P 500 reached 40-year highs, and all these indexes experienced drawdowns of more than 50 percent. Indexes for gold, managed futures, volatility and Treasury bonds actually rose in 2008, and investors could explore the possibility of whether limited allocations to these indexes might be effective for diversification and risk management purposes in the event of a future financial crisis. Options involve risk and are not suitable for all investors. Prior to buying or selling an option, a person must receive a copy of Characteristics and Risks of Standardized Options; this publication and supporting documentation for any claims, <strong>com</strong>parisons, re<strong>com</strong>mendations, statistics or other technical data in this paper are available by calling 1-888-OPTIONS, or contacting CBOE at www.cboe. <strong>com</strong>/Contact. Past performance does not guarantee future results. The views expressed in this article are the views of the author and do not necessarily represent the views of Chicago Board Options Exchange, Incorporated (CBOE). CBOE ® , Chicago Board Options Exchange ® , CBOE Volatility Index ® and VIX ® are registered trademarks and BXM, PUT and SPX are servicemarks of CBOE. All other trademarks and servicemarks are the property of their respective owners. Endnotes 1 Harry M. Markowitz, “Crisis Mode: Modern Portfolio Theory under Pressure,” The Investment Professional (spring 2009). 2 Edward Szado, “VIX Futures and Options: A Case Study of Portfolio Diversification During the 2008 Financial Crisis,” The Journal of Alternative Investments (fall 2009), vol. 12, no. 2, pp. 68-85. 62 January/February 2010
Actively Passive? When a little active management can be a good thing By Craig Israelsen 40 January/February 2010
Change language