Post-Modern Portfolio Theory - PMPT

There was “modern,” then “post-modern”...it’s only a matter of time before “post-post-modern” comes along.

But for now, let’s focus on PMPT: Post-Modern Portfolio Theory.

Regular old Modern Portfolio Theory (MPT) uses the mean variance of investment returns to optimize diverse portfolios. While MPT is considered a huge advancement in portfolio strategy and management, it’s got its limitations. For instance, the reason mean variance is used is because it’s supposed to be a proxy for investment risk. Plus, it has some statistical assumptions of a normal distribution, which isn’t always best. MPT does all right, but, hey...we can always do better, right?

In contrast, PMPT uses downside risk of returns, rather than mean variance, as a proxy for investment risk. For stat-nerds, that means they used the standard deviation of all returns, rather than just for negative returns, to measure risk. Where MPT assumes symmetrical risk, PMPT assumes asymmetrical risk. PMPT was a decades-in-the-making improvement to the revolutionary (but limited) MPT.

Now just waiting on the next iteration: PPMPT.