That was the title of a presentation by the president of Morningstar's investment management division. It was an incredibly nerdy presentation ("there are four ways of permuting normal distribution curves to better reflect three standard deviation events"). Three highlights:
1. asset class diversification worked in 2008 - stocks were down, bonds were up, folks who diversified their portfolios away from pure equity exposure saw substantially better returns that those who didn't.
2. stock returns do not match the normal distribution (the "bell-shaped curve") that most folks assume. That's bad because my risk (standard deviation) or risk-return measures assumes that it does. The normal distribution is pretty close except at the left-hand tail; that is, except for extreme losses. Researchers charted the stock market's returns, month by month, from 1926-2011. If distributions were "normal," you'd expect to see one month of losses that we three standard deviations from the mean; that is, one month with losses of 12% or more. In reality, there were 10 such months.
3. don't count on outperformance of small caps - while they do better in the extremely long term, they went for 50 years without outperforming large caps.
The presentation is inconclusive, in that the speaker didn't answer the question, "so what am I supposed to do with this information?" But it did offer a new perspective on the frequency of "black swan" events.
For what it's worth,
David
Comments
Seriously, small caps like any other style come in and out of preference. In 90s they performed terribly. That is why, you need other asset styles and classes.