No. of Recommendations: 3
Well, the evidence shows that it's better interpreted (statistically) as "equal-weighting means selling overvalued stuff and buying undervalued stuff each quarter to maintain balance. " Yes, the trimming sometimes starts before the overvaluation level, but reliably skipping big allocations to overvalued stuff is a very big win.
Intellectually I know that for most periods of time, equal weight results in somewhat better returns. The only periods when it does not is during big tech runs. But I'm trying to understand it viscerally. I don't see why "big" = "overvalued" and "small" = "not overvalued", of course cap-weighting is choosing bigger over smaller ...
Maybe overvalued. can be determined by P/E? or perhaps a smoothed average P/E? Maybe instead of strictly equal weighting, one could try weighting high P/E stocks a little lower than lower P/E stocks? I wonder what the result would be in that case?
