For decades, the structure of investment portfolios has been influenced by a key theory that has begun to show its limitations: efficient markets. This concept, originally posited by Eugene Fama in the 1960s, formed the foundation for modern portfolio theory and led to the prevalence of index funds. While this approach has effectively navigated various market cycles over the years, it may fail to adapt to new financial dynamics.

As we pivot into a digital finance era, tokenized assets represent an opportunity to expand investment horizons beyond traditional frameworks.

The Genesis of Modern Portfolio Theory
Index fund investing didn’t emerge by chance. It was significantly shaped by Burton Malkiel’s influential book, A Random Walk Down Wall Street, published in 1973, which advocated for indexing in an era when market efficiency was hotly debated.

This laid the groundwork for passive investment strategies that emphasize broad diversification with limited trading, now dominant across the globe, despite the underlying assumption that investors always make rational choices.

Psychologists like Daniel Kahneman and Amos Tversky have revealed flaws in human decision-making, supporting this in Kahneman’s acclaimed work, Thinking, Fast and Slow.

Over time, economists have melded efficient market principles with insights on irrational behavior, leading to the idea of “pretty good markets.” Usually, price wisdom tends to trend towards accuracy over time, yet significant discrepancies remain at the individual case level, presenting opportunities for investors. Despite this, the heavy regulatory framework surrounding institutional investing steers fund managers towards safer, established investments like government bonds and stock index funds.

-–

Tokenization: Expanding the Universe of Investable Assets
Tokenization does not just provide a method to digitize various assets; it can also furnish transparent and comparable value metrics. By converting real-world assets like Thai real estate or Nigerian oil leases into tokens on the blockchain, consistent daily market data can be generated, traditionally available only for specific assets.

How much Thai real estate should be included in a well-rounded retirement portfolio? Current models obscure this due to a lack of reliable, consistent pricing. Tokenizing this asset could allow real-time market evaluations, requiring investors to rethink static, index-focused tactics.

Implications for Global Finance
Presently, alternative strategies make up a mere 15-20% of typical funds. Renewed academic focus on legitimate investments could open up the remaining 80% of portfolios.

Imagine a world in which asset classes and geographic areas long neglected due to data limitations or illiquidity become available to institutional funds and individual savers alike. Blockchain technology would enhance traditional portfolio theory by including a wider array of risk-return scenarios.

As tokenized assets build their credibility, fund managers, who today opt for the consistency of bonds and index funds, might feel pressured to evolve their investment strategies as well.

A Measured but Inevitable Shift
Change won’t be instant. The most rapid transformations we can expect over the next decade will hinge upon the successful creation of a significant number of tokenized assets and building a reliable information trail.

However, once that data is established, swift shifts could be facilitated by AI advancements.

Historical records show significant resistance to change among fund managers, who took decades to transition from bond-heavy to equity index models. This transition might proceed faster in an AI-enhanced investment landscape, where even small reallocations can lead to substantial financial shifts.

A forthcoming EY Global Blockchain Summit on April 1-3 will explore this evolution in digital asset portfolios.

Note: The views expressed in this column are those of Paul Brody and do not necessarily reflect those of CoinDesk, Inc. or its affiliates.