Risk and Return – Inserparable…In the long run!

First, I have to point out that this post references one of my all-time heroes (you can find more information on the Investor Superhero page under Menu), Cliff Asness, whom I have an unhealthy propensity to scour the web for any tidbit of info he posts/shares.

Cliff's Perspective figure 10
Risk and Return apparently do go hand-in-hand…Sometimes it just takes a while to realize it.  Don’t mistake Luck, or small time series samples for having no Risk and being all Skill!

 The article does a wonderful job at showcasing statistically insignificant short time intervals in proper context vis-à-vis  a larger sample.  A few thoughts:

  1. If risk and return are in fact related then seeking out recent back tested strategies that have faired extremely well in one particular market could very well play out to produce a lower expected return in the future (Meaning you get out of sample returns with lower Sharpe ratios than the benchmark used for comparison).  Not a bad idea to test things, but simply looking at history and not applying an economic or behavioral rational to the outcome (Combo of the two likely better) has a high probability of being a fools errand.
  2.  If you stop and think about it, at a very basic level this makes since…Risk and Reward must be interrelated at the large sample size level, and yet doesn’t appear as such when viewed from a narrow lens.  Think about all the silly things you did once, twice or possible three times as a youth, and yet it didn’t materially harm you.  Take that same event and imagine doing it 1000 or 10000 times…Probably pretty hard now to imagine that you didn’t experience at least a few really bad outcomes, right?  You might be able to catch a falling knife once without a scratch, but chances are you’ll need a box of Band Aids if you try it 100 times.


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