Asset allocation: management style and performance measurement

TLDR: In this paper, the authors define asset allocation as the allocation of an investor's portfolio across a number of ”major” asset classes, and propose an effective way to accomplish all these tasks is to use an asset class factor model.

Abstract: is widely agreed that asset allocation accounts for a large part of the variability in the return on a typical investor’s portfolio. This is especially true if the portfolio is invested in multiple funds, each including a number of securities. Asset allocation is generally defined as the allocation of an investor’s portfolio across a number of ”major” asset classes. Clearly such a generalization cannot be made operational without defining such classes. Once a set of asset classes has been defined, it is important to determine the exposures of each component of an investor’s overall portfolio to movements in their returns. Such information can be aggregated to determine the investor’s overall effective asset mix. If it does not conform to the desired mix, appropriate alterations can then be made. Once a procedure for measuring exposure to variations in returns of major asset classes is in place, it is possible to determine how effectively individual fund managers have performed their functions and the extent (if any) to which value has been added through active management. Finally, the effectiveness of the investor’s overall asset allocation can be compared with that of one or more benchmark, asset mixes. An effective way to accomplish all these tasks is to use an asset class factor model. After describing 7 5 w 8