Book review: Expected Returns: An Investor’s Guide to Harvesting Market Rewards, by Antti Ilmanen.
This book is causing me to change my approach to investing much more than any other book has. It is essential reading for any professional investor.

The foreword starts by describing Ilmanen as insane, and that sounds like a good description of how much effort was needed to write it.

Amateur investors will have trouble understanding it – if you’re not familiar with Sharpe ratios, you should expect to spend a lot of time looking elsewhere for descriptions of many concepts that the book uses. I had a few problems understanding the book – he uses the term information ratio on page 188, but doesn’t explain it until page 491 (and it’s not indexed). I was also somewhat suspicious about how he handled data mining (overfitting) concerns in momentum strategies until I found a decent answer in a non-obvious place (page 404).

The most important benefit of this book is that he has put a lot of thought into identifying which questions investors should be trying to answer. Questions such as whether past performance is a good indicator of future returns, and what would cause a pattern of superior returns to persist or vanish.

Some other interesting topics:

• why it’s important to distinguish between different types of undiversifiable risk, and how to diversify your strategies so that the timing of losses aren’t highly correlated across those strategies.
• why earnings per share growth has been and probably will continue to be below GDP growth, contrary to what most forecasts suggest.
• how to estimate the premium associated with illiquidity
• why it’s useful to look at changes in correlations between equities

It’s really strange that I ordered this a few weeks after what Amazon lists as the publication date, but it took them nearly 7 weeks to find a copy of it.

Some quotes:

overfitting bias is so insidious that we cannot eliminate it (we cannot “become virgins again” and forget our knowledge)

the leverage of banks will soon be more tightly restricted by new regulations. The practical impact will be more pronounced risk premia for low-volatility assets, more sustained mispricings, and greater opportunities for those who can still apply leverage