Tesla also performed better than the S&P 500. It doesn't mean you should buy tesla. You should buy tesla if it increases diversification (obviously not true that buying tesla in excess of market weight improves diversification) or when tesla contains statistically significant positive risk factors.klaus14 wrote: ↑Mon Nov 30, 2020 3:38 am- Why not? It performed better than SP500 with lower volatility?Uncorrelated wrote: ↑Mon Nov 30, 2020 3:31 am It is not a good diversifier in the same way roulette isn't: it's uncorrelated to the stock market, but you're not being compensated for that additional risk.
In practice all the return of VPU is explained by stock market and bond market factors. What you're left with is a highly concentrated, poorly diversified sector bet. Looking at correlations just doesn't work in a multi-factor world. The correlation between VPU and VTI is only low because VTI is over 50% long-term bonds. The correlation between tesla and the stock market is also low. Are you going to over-weight tesla as well just because it has a low correlation? Of course not, low correlation is not a sufficient condition for being a good investment.
See this research paper for more details: https://papers.ssrn.com/sol3/papers.cfm ... id=2965146 (the title says REIT's, but they also run regressions on utilities and the exact same mathematical methods are suitable for all sectors).
- Citation needed. Yes, regression shows term loading, but the highest R i was able to get was 50% in PV. This means its returns are not well explained by factors.
The paper you link has R=37% for UTIL. How can you say "all the return of VPU is explained by stock market and bond market factors" ?
Here's a citation:
Here is one from an actual academic paper:
And here with bond market factors:
Low R^2 does not imply high diversification. It's the exact opposite: low R^2 usually means poor diversification, this can be easily observed by factor regressing individual stocks. You want a portfolio's with high R^2.