Allocation, Optimization, Diversification, Oh My!

Asset Allocation.

Asset allocation is the art of combining assets to achieve the highest expected return for a given level of risk. With more diversified assets at every risk level, Betterment was able to build a portfolio that had higher expected returns regardless of how much risk you want to take on. When crafting the portfolio, Betterment used two techniques usually only available to high net worth individuals: the Black-Litterman expected returns model, and the optimization for downside risk measures.

Black-Litterman.

First, Betterment employed the Black-Litterman model to generate forward-looking expected returns. To do this, Betterment analyzed the global portfolio of investable assets and their proportions. The Black-Litterman model, a complex mathematicalrobo-advisor investing - betterment achieves allocation, optimization, diversification equation, allowed Betterment to use this global portfolio to generate forward-looking expected returns – for each asset class. While many firms also use Black-Litterman to make short-term market-timing decisions by imposing their own views, Betterment adhered to their core index-based investment philosophy and did not. Betterment got the best possible estimates of expected returns – those aggregated from millions of investors across the globe.

Optimization for Downside Risk.

Next, Betterment optimized the portfolio for each level of expected return, mixing assets to minimize the risk taken. They considered the potential downside (drawdowns) as well as the uncertainty (or expected volatility) as risk measures, and traded them off against expected return. The result allowed Betterment to flexibly set asset allocation at every given level of risk.

Geographic Diversification.

This analysis results in a portfolio that is invested in over 100 countries and in more than 5,000 publicly traded companies across the world. This includes exposure to government debt, corporate bonds, securitized debt, and supranational bonds with a range of creditors and interest rate sensitivities.


How about this tax harvesting that you,'ve mentioned several times?


 

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