Constructing Portfolios

The future is uncer­tain so we pre­pare political-​economic sce­nar­ios that cover the range of what may hap­pen, with cor­re­spond­ing prob­a­bil­i­ties, over the next 12 months.

  • The sce­nar­ios are char­ac­ter­ized by macro­eco­nomic vari­ables for each region of the world such as real GDP growth, infla­tion, exchange rates, cen­tral bank overnight rates, and the global price of petro­leum, among others.
  • We also have a set of esti­mated equa­tions that fore­cast a long list of addi­tional con­se­quences includ­ing: pro­duc­tiv­ity, unem­ploy­ment, unit labor costs, prof­its, div­i­dends, and long term inter­est rates. These equa­tions are con­tin­u­ously re-​estimated and the para­me­ters reviewed to deter­mine relevance.
  • We com­bine the sce­nario fore­casts and the multi-​variable fac­tor esti­mates to project returns for each of ten stock mar­ket sec­tors in each of four regions (US, Japan, Europe, Emerg­ing Mar­ket) and for cash and U.S. gov­ern­ment bonds.
  • We care­fully con­struct a tar­get port­fo­lio using the avoid­ance of major losses as a sig­nif­i­cant criterion.
  • We con­strain the port­fo­lio by attempt­ing to limit a pro­jected max­i­mum loss in a worst case sce­nario and a weighted expected loss across all sce­nar­ios of 10% or less.

A port­fo­lio that was expected to lose no money in any sce­nario, but that was expected to par­tic­i­pate sub­stan­tially in bet­ter sce­nar­ios, is a dom­i­nant choice.