Book Review: Frontiers Of Modern Asset Allocation, Part II

Part I discusses the book's section on asset allocation. Part II discusses the book's other insights, my critique, and the author's responses.

Historical statistics should not be blindly fed into an optimizer.

Paul D. Kaplan, Ph.D.

The quote above belongs on a T-shirt. I'd like to give one to every quant headed for Wall Street with visions of spinning mathematical models into gold.

For now, though, I'll just continue with my review of Kaplan's Frontiers of Modern Asset Allocation, beginning with one of the book's key insights.

Sample Bias

As noted in the quote above, Paul Kaplan has tremendous respect for the limits of what optimization can achieve. Likewise, Laurence Siegel suggests limits on what extrapolation can achieve, since history offers us limited samples of the past.

In the book's foreword, Siegel noted that we treat the last century of equity returns in the U.S. and the U.K. as if