Active Portfolio Selection (II) : The Information-Theoretic Principles that Harmonise Markowitz with Investor Behaviours

We demystify why, after 70 years of the Markowitz Modern Portfolio Theory (MPT) publication, the investment-management industry still persistently favours some seemingly disconnected rules-of-thumb or behaviours (e.g., equal-weighting, risk-parity, factor-ranking etc.), and validate the behaviour-consistency of the Bayesian Allocation Framework. This research uniquely contributes: (1) the information-theoretic principles which help derive, explain and reconcile a whole range of investor behaviours; (2) an explanation for why these behaviours dominate the MPT in practice; (3) a normative insight that information efficiency outweighs mean-variance efficiency; and (4) a top-down behaviour-research methodology that resorts to observable behaviours to compare and validate theories