Modern Portfolio Theory - MPT
Categories: Financial Theory, Index Funds, Managed Funds
Back in the ancient 1950s, Harry Markowitz created this theory to create an investment portfolio or investment system for folks who were nervous about risk.
The highlights? Diversification is good. (And some risk is needed to reap the rewards.) Balancing risk with proper diversification and tracking the results is good stuff. See: Portfolio.
Key Concept: Diversification. Is. Good. Dig it.
That’s modern. Like when Unk and Nuh-uh invested from their cave, they just invested in good rocks or spears and really didn’t worry about much else. Math hadn’t really been invented yet, so…like who knew the diff?
Then, in 1952, along came Harry Markowitz, who tried to science and math the crap out of the stock market.
What he came up with was modern portfolio theory, which basically said that there was a smarter way to invest than just, uh...putting your life savings into Blockbuster because you...like the logo. Using all sorts of advanced metrics that we won’t torture you with here, the theory he devised was that rather than throwing your money against a wall to see what sticks you could use extensive, elaborate data to determine the best way to maximize your returns, depending on how much risk you were willing to, uh… risk.
In general, MPT skews toward less risky investments in general. But it all comes down to risk/reward in the end. If, for whatever reason, you feel supremely confident that Radio Shack is about to make a massive comeback you might be able to justify taking more risk.
But, to be clear: Radio Shack was just a bad example. So, don’t try this at home.