Asset Allocation & Sustainable Investing - Summary - Tilburg university - MSc Finance

ASSET ALLOCATION
AND SUSTAINABLE
INVESTING:
SUMMARY


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,Table of contents
Asset allocation (AA)
Topic 1_________________________________________________page 3-17
Topic 2_________________________________________________page 18-27
Topic 3_________________________________________________page 28-37

Sustainable investing (SI)
Topic 1_________________________________________________page 38-40
Topic 2_________________________________________________page 41-45
Topic 3_________________________________________________page 46-48
Topic 4_________________________________________________page 49-53
Topic 5_________________________________________________page 54-60
Topic 6_________________________________________________page 61-66
Topic 7_________________________________________________page 67-72
Topic 8_________________________________________________page 73-78




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,Topic 1 – Strategic asset allocation (Harvard) (AA)
Asset allocation:
Harvard management company (HMC) – endowment fund:
- Infinite lifetime, dependent on donations
- Aggregation of multiple funds, so not 1 large pile of money
Strategic asset allocation: long-term
- Long-term benchmark allocation to broad asset classes.
- Maximize risk return trade-off given asset class characteristics.
- Periodical rebalancing towards long-term weights.
Tactical asset allocation: short/medium term
- Active strategy to deviate from long-term allocation based on changing market.
→ Market timing: adjust weights towards asset you expect to perform well.
Strategic asset allocation – fund managers:
Monthly: fund managers stick close to strategic asset allocation and remain rather passive.
10-years: fund managers use other factors such as asset-class timing, security selection, etc.
→ High vs. low R2 that show how much variation in return are due to strategic asset
allocation or due to tactical asset allocation respectively.
Rules of asset management:
Traditional asset classes: cash, bonds, equities
Alternatives: private equity, private debt, hedge funds, real estate, crypto, commodities
HMC portfolio:
Dots: policy weights
Bars: min/max weights to deviate from policy.
→ Tactical asset allocation
Benchmark: different benchmarks used for
performance measurement.




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, Rule 1 – do not neglect equities:
US households: ~50% of US households (positive
wealth) do not hold stocks (2015)
→ Even lower percentages for other countries,
why?




Equity participation puzzle:
Q: “Why do people underinvest in equity?”
Are equities more risky?
- Short run: equities are indeed riskier
- Long run: equities have the highest return of all asset classes in the long run, so less risky.
- Mean-variance-optimization:
* Calculates weights of asset classes based on risk averse level
* With risk-level = 3 or risk-level = 50 equities still get a 60% and 20% weight. Hence, even
with very
unrealistic high risk averse levels you should still include a large portio of equity in your
portfolio.
No time for equity investing?
- Invest in ETFs → safes time consuming investing and little costs
Behavioural finance:
1. Myopic loss aversion:
* Loss aversion: investors feel relatively worse about losses vs. good about gains.
→ Feeling of losing $1 is worse than feeling of gaining $1.
* Myopia: short-sightedness, investors check portfolio value too often (=vigilance)
→ Avoid equity assets with frequent,
short-term losses such as stocks
→ Ignoring superior long-term returns


2. Probability overweighting:
* Investors tend to overestimate small probability events and underestimate large
probability events
→ Investors expect a crash to happen with higher probability.
→ Investors expect non-extreme returns to happen with lower probability.




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