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Quant Mashup - Flirting with Models
The Lie of Averages [Flirting with Models]
Averages are often used to summarize data: but sometimes fitting for the average means fitting nothing at all. Expected returns are a meaningful input to portfolio construction, but are unlikely to be the returns actually realized. Reality rarely looks average. The world is dynamic and forecasts can
- 4 years ago, 18 Sep 2017, 10:56am -
Tax-Managed Models & Asset Location [Flirting with Models]
In a world of anemic asset returns, tax management may help significantly contribute to improving portfolio returns. Ideally, asset location decisions would be made with full investor information, including goals, risk tolerances, tax rates, and distribution of wealth among account types. Without
- 4 years ago, 11 Sep 2017, 01:07pm -
The Butterfly Effect in Retirement Planning [Flirting with Models]
Summary The low current market outlook for stocks and bonds paints a gloomy picture for retirees under common retirement forecasting assumptions. However, assumptions such as net investment returns and retirement spending can have a large impact on forecasted retirement success, even for small
- 4 years ago, 5 Sep 2017, 12:01pm -
Portfolios in Wonderland & The Weird Portfolio [Flirting with Models]
Summary­­ The current outlook for stocks, bonds, and traditionally allocated portfolios is near all-time historical low levels. Even though short-term performance may vary, investors looking for long-term success may have to expand their investment palette to earn returns anywhere close to those
- 4 years ago, 30 Aug 2017, 11:07am -
Accounting for Autocorrelation in Assessing Drawdown Risk [Flirting with Models]
Under a simple model of asset prices, expected returns and volatilities can be used to calculate expected maximum drawdowns over a given timeframe. However, these expected drawdowns do not line up with the drawdowns investors have experienced. Simple models have underestimated drawdown risk in
- 4 years ago, 21 Aug 2017, 10:44am -
Impact of High Equity Valuations on Safe Retirement Withdrawal Rates [Flirting with Models]
While valuation-based market timing is notoriously difficult, present and future retirees should prepare for muted U.S. stock and bond returns relative to historical experience. High valuations suggest that retirement withdrawal rates that were once safe may now deliver success rates that are no
- 4 years ago, 14 Aug 2017, 11:09am -
A Gentle Guide to Global Tactical Asset Allocation [Flirting with Models]
Two questions we frequently receive are: “what is global tactical asset allocation?” and “what are style premia (factors)?” In this commentary, we aim to provide a very high-level answer to those questions, incorporating as little math or financial theory as possible and avoiding nuanced
- 4 years ago, 7 Aug 2017, 12:35pm -
Managing Capital Market Assumption Risk [Flirting with Models]
Calculating an optimal portfolio from a set of capital market assumptions (CMAs) is a straightforward quantitative exercise, but the results are highly dependent on the assumptions holding in the future. Any portfolio that is initially assumed to be optimal will be sub-optimal if any single assumed
- 4 years ago, 24 Jul 2017, 10:35am -
Combining Tactical Views with Black-Litterman and Entropy Pooling [Flirting with Models]
In last week’s commentary, we outline a number of problems faced by tactical asset allocators in actually implementing their views. This week, we explore popular methods for translating a combination of strategic views and tactical views into a single, comprehensive set of views that can be used
- 4 years ago, 17 Jul 2017, 09:31am -
Four Important Details in Tactical Asset Allocation [Flirting with Models]
Newfound specializes in systematic, factor-based approaches to constructing tactical portfolios. While we believe factors like value, momentum, carry, and trend are applicable at the asset class level, care must be taken in designing tactical allocation portfolios. We outline four considerations
- 4 years ago, 10 Jul 2017, 01:10pm -
Growth Optimal Portfolios [Flirting with Models]
Traditional portfolio management focuses explicitly on the trade-off between risk and return. Anecdotally, investors often care more about the growth of their wealth. Due to compounding effects, wealth is a convex function of realized returns. Within, we explore geometric mean maximization, an
- 4 years ago, 5 Jul 2017, 11:47pm -
Duration Timing with Style Premia [Flirting with Models]
In a rising rate environment, conventional wisdom says to shorten duration in bond portfolios. Even as rates rise in general, the influence of central banks and expectations for inflation can create short term movements in the yield curve that can be exploited using systematic style premia. Value,
- 5 years ago, 26 Jun 2017, 11:06am -
Is Your Multi-Asset Strategy Really Multi-Asset? [Flirting with Models]
The term “multi-asset” appears in many investment strategies and applies to both balanced funds and target date retirement funds. However, multi-asset strategies may be concentrated in a limited set of asset classes, and the performance of these asset classes may be driven by an even more
- 5 years ago, 19 Jun 2017, 10:40am -
Factors & Financial Planning [Flirting with Models]
In asset management research, we often assume an investor has an infinite horizon, no spending requirements, and no tax consequences. While this may be appropriate for some institutions, it is rarely appropriate for individual investors, leaving financial advisors to fill the gaps. Many factor
- 5 years ago, 12 Jun 2017, 10:11am -
Do Factors Market Time? [Flirting with Models]
Factors such as value, size, and momentum are generally constructed using dollar-neutral portfolios in academic literature. The market beta exposure in these portfolios is often significant and can vary substantially over time. Each factor has gone through periods where these features have been
- 5 years ago, 5 Jun 2017, 09:09am -
Big Little Details [Flirting with Models]
Limited attention drives us to focus on the big details of investment strategies. Small details can have an outsized impact on performance, especially if they can compound upon one another. To quote Aaron Brown, Head of Risk at AQR: “It takes a lot of compounding to turn a mistake into a disaster.
- 5 years ago, 29 May 2017, 09:27pm -
Can We Improve Sector Rotation? [Flirting with Models]
Momentum-based sector rotation is a popular investment strategy. Recent academic studies have shown that alternative implementations of standard momentum – including risk-adjusted momentum, residual momentum, and “frog-in-the-pan” momentum – can significantly improve the risk-adjusted and
- 5 years ago, 22 May 2017, 11:42am -
Navigating Municipal Bonds With Factors [Flirting with Models]
In this case study, we explore building a simple, low cost, systematic municipal bond portfolio. The portfolio is built using the low volatility, momentum, value, and carry factors across a set of six municipal bond sectors. It favors sectors with lower volatility, better recent performance, cheaper
- 5 years ago, 15 May 2017, 12:27pm -
Expectations with Tactical Equity [Flirting with Models]
Market expectations are a key input in the portfolio construction process. These expectations can be either qualitative or quantitative. How to form expectations for more complex strategies (e.g. managed futures, covered calls, and alternatives) is often less straightforward than forming
- 5 years ago, 8 May 2017, 12:12pm -
Factor Investing in Multi-Asset Portfolios [Flirting with Models]
Factor investing (value, momentum, low volatility, carry, trend, etc.) is well-known in equities but less discussed in other asset classes. However, many of these factors are just as prevalent in other asset classes, such as bonds, commodities, and currencies. In this case study, we explore the
- 5 years ago, 3 May 2017, 10:55am -
Why quants don't pick stocks [Flirting with Models]
Quant is a broad word with many job descriptions in finance. In asset management, a quant is someone who applies mathematical (usually statistical) techniques to analyzing the securities market, usually with an eye towards identifying investment opportunities. Quants rely on factors: systematic
- 5 years ago, 24 Apr 2017, 10:12am -
A Simulation-Based Rebuttal to Research Affiliates (@RA_Insights) [Flirting with Models]
Research Affiliates published a new piece of research exploring mutual fund returns over the last 25 years and the implied ability for managers to capture popular factor premiums published by the academic community. They argue that several factors accepted in academia may not be implementable after
- 5 years ago, 17 Apr 2017, 12:23pm -
Did Declining Rates Actually Matter? [Flirting with Models]
From 1981 to 2017, 10-year U.S. Treasury rates declined from north of 15% to below 2%. Since bond prices appreciate when rates decline, many have pointed towards this secular decline as a tailwind that created an unprecedented bull market in bonds. Exactly how much declining rates contributed,
- 5 years ago, 10 Apr 2017, 11:53am -
The Curious Case of the Missing Credit Premium [Flirting with Models]
Before we dive into this week’s commentary, we want to extend a very heartfelt thank you to everyone who nominated us for ETF.com’s 2016 ETF Strategist of the Year Award. The award ceremony was held on Thursday night and we were fortunate enough not to leave empty handed! We’re incredibly
- 5 years ago, 3 Apr 2017, 10:59am -
All About Factors & Smart Beta [Flirting with Models]
This week's commentary is a long-form presentation all about factor investing and smart beta. We cover four topics. In the first section, we explore the basics of factors: what are they and where do they come from? The second topic explores why implementation details matter and why long-only
- 5 years ago, 27 Mar 2017, 05:51pm -
Diversification in Multi-Factor Portfolios [Flirting with Models]
The debate rages on over the application of valuation in factor-timing methods. Regardless, diversification remains a prudent recommendation. How to diversify multi-factor portfolios, however, remains up for debate. The ActiveBeta team at Goldman Sachs finds new evidence that composite
- 5 years ago, 20 Mar 2017, 03:18pm -
Sector Rotation and the Momentum Factor [Flirting with Models]
Sector rotation is a popular investment strategy whereby managers actively reallocate capital from one investment sector to another based upon changing market conditions. There are many ways to run sector rotation strategy, including: business cycle indicators, macroeconomic indicators, value-based,
- 5 years ago, 13 Mar 2017, 11:28am -
Visualizing the Anxiety of Active Strategies [Flirting with Models]
Prospect theory states that the pain of losses exceeds the pleasure of equivalent gains. An oft-quoted ratio for this pain-to-pleasure experience is 2-to-1. Evidence suggests a similar emotional experience is true for relative performance when investors compare their performance to common reference
- 5 years ago, 6 Mar 2017, 11:49am -
Misattributing Bad Behavior [Flirting with Models]
The behavior gap is the difference between the returns on an investment and the returns that an investor realizes in that investment. Behavioral biases ingrained in human nature, such as anchoring, hindsight, and overconfidence drive emotional decisions that can lead to a behavior gap, but
- 5 years ago, 27 Feb 2017, 10:32am -
Crisis Alpha: A Simple ETF Approach [Flirting with Models]
Trend-following strategies – such as managed futures and tactical equity – have historically provided crisis alpha against sustained drawdowns. For short-horizon events (e.g. single day, week, or month events), the effectiveness of these approaches in managing risk is largely based on the luck
- 5 years ago, 21 Feb 2017, 12:03pm -
Anatomy of a Bull Market: Follow-Up [Flirting with Models]
Based on our post from earlier today ("Anatomy of a Bull Market"), we received a request to decompose U.S. equity returns over rolling 10-year periods. The graph presenting this data is below. To perform these calculations, we calculate the annualized return generated by each source
- 5 years ago, 13 Feb 2017, 08:43pm -
Anatomy of a Bull Market [Flirting with Models]
Long-term average stock returns smooth over the bull and bear markets that investors experience, and no two market cycles ever unfold the exact same way. Bull and bear markets can vary significantly in both duration and magnitude. But there are other characteristics of bull markets that can also
- 5 years ago, 13 Feb 2017, 10:39am -
Embracing Conflict in Asset Allocation [Flirting with Models]
Diversification is a cornerstone of portfolio construction. It provides investors with the important ability to invest in the face of uncertainty. Because it can reduce risk without necessarily sacrificing potential reward, it is known as the only free lunch on Wall Street. Yet, we believe that many
- 5 years ago, 6 Feb 2017, 12:08pm -
Market Timing with Value [Flirting with Models]
Cliff Asness, Antti Ilmanen, and Thomas Maloney of AQR are out with a new paper about market timing with value, titled: Market Timing: Sin a Little. Specifically, the paper explores whether the Shiller PE (also known as the cyclically adjusted P/E, or CAPE) can be effectively used to directionally
- 5 years ago, 30 Jan 2017, 12:04pm -
Should We Be Holding More Cash? [Flirting with Models]
Modern portfolio theory provides a way for investors to identify the efficient frontier: the set of portfolios that maximize return per unit of risk. Taken to its logical conclusion, modern portfolio theory states that all investors should invest in the same global market portfolio and increase or
- 5 years ago, 30 Jan 2017, 09:42am -
Managing Active Risk [Flirting with Models]
Position sizing is often the result of portfolio construction and is therefore largely overlooked in manager selection. Risks introduced by active strategies can change not only the absolute risk level of the portfolio, but also the relative composition of risk. Active risk can also create tracking
- 5 years ago, 23 Jan 2017, 08:50pm -
It's 2017: Do You Know Where Your Risk Is? [Flirting with Models]
Last week’s commentary highlighted why we believe traditionally built portfolios may face return headwinds going forward. Traditionally built stock/bond allocations also exhibit extremely high risk concentrations. Non-traditional exposures, now available as low-cost ETFs, can help introduce
- 5 years ago, 13 Jan 2017, 12:19pm -
A Modern, Behavior-Aware Asset Allocation [Flirting with Models]
Happy New Year! To kick off the year, we want to share a white paper we penned mid-December containing our views on building a modern strategic asset allocation. The white paper covers: Why we believe tailwinds from the last 30 years are turning into headwinds for traditionally allocated stock-bond
- 5 years ago, 4 Jan 2017, 02:55am -
Reflecting on Research in 2016 [Flirting with Models]
On behalf of the entire Newfound Research team, we would like to wish you and yours a happy holiday season. We treat this weekly research commentary as a sacred part of our investment process. We continue to be honored and humbled by the vast and growing number of readers it reaches, a sign of the
- 5 years ago, 27 Dec 2016, 06:08pm -
Factor Rotation: Possible, but Worth It? [Flirting with Models]
With significant research into factor rotation in 2016, we expect to see more factor rotation strategies in the market in 2017. Using six popular factors (Value, Size, Reinvestment, Operating Profitability, Momentum and Beta), we explore both switching and rotation based strategies. We find
- 5 years ago, 19 Dec 2016, 10:42pm -
The Ghost of GDP Past [Flirting with Models]
Summary­­ Economic growth is a key driver of long-term stock and bond returns. Economic growth comes from two main sources: demographic changes (i.e. increases in the number of workers) and productivity growth (i.e. each worker producing more output). Historically, approximately 55% of growth has
- 5 years ago, 12 Dec 2016, 04:31pm -
Is dividend investing dangerous? [Flirting with Models]
Summary In a persistent, low interest rate environment, dividend strategies have rapidly increased in popularity. In theory, investors should be indifferent to dividends. In practice, they are not. As a strategy, a focus on high dividend yield may simply be a (poor) value strategy in drag. A focus
- 5 years ago, 5 Dec 2016, 11:23am -
Should we celebrate rising rates? [Flirting with Models]
With 10-year rates jumping over 40bp in November, investors are beginning to talk about rising rates again. While rising rates may cause short-term volatility, coupon yield is a much more significant contributor to portfolio return over the long run. Increasing rates actually allow us to reinvest at
- 5 years ago, 28 Nov 2016, 03:39pm -
How to Not Ditch Your Investment Plan [Flirting with Models]
A well-designed investment plan is an important part of achieving investment objectives, but even the best investment plan is useless if you cannot stick to it. Rolling relative performance can give context to the size of short-term portfolio fluctuations while looking at risk exposures can give
- 5 years ago, 21 Nov 2016, 10:26am -
Momentum: Letting the Cheap Get Cheaper? [Flirting with Models]
As an investment strategy, momentum focuses solely on prior returns. Being valuation agnostic, however, does not mean that a momentum strategy does not have first-order valuation effects on portfolio construction. Using historical US sector data, we find that both cross-sectional and time-series
- 5 years ago, 15 Nov 2016, 02:01am -
Outperforming by Underperforming [Flirting with Models]
If you want long-term outperformance, you must be able to stomach short-term underperformance. As William Bernstein said, “The most important investment ability is an emotional discipline.” Investing is a team sport that requires this discipline from both the investment manager (to stick to his
- 5 years ago, 7 Nov 2016, 11:31am -
Rising Correlations and Tactical Asset Allocation [Flirting with Models]
The power of strategic asset allocation is best harnessed when future asset class behavior is relatively certain and diversification opportunities abound. Uncertainty around rising rates and the current monetary policy environment may call both of these criteria into question. Holding all else
- 5 years ago, 31 Oct 2016, 12:29pm -
Is My Diversified Commodity Index Just Oil? [Flirting with Models]
The benefit of including commodities in individual investor portfolios is often up for debate, focusing on aspects such as expected returns, volatility, access, and diversification. While we think that commodities can add value if the risks are understood, many passive ETFs that offer commodity
- 5 years ago, 25 Oct 2016, 08:29am -
Capital Efficiency in Multi-factor Portfolios [Flirting with Models]
The debate for the best way to build a multi-factor portfolio – mixed or integrated – rages on. Last week we explored whether the argument held that integrated portfolios are more capital efficient than mixed portfolios in realized return data for several multi-factor ETFs. This week we explore
- 5 years ago, 17 Oct 2016, 09:09pm -
Is That Leverage in My Multi-Factor ETF? [Flirting with Models]
The debate for the best way to build a multi-factor portfolio – mixed or integrated – rages on. FTSE Russell published a video supporting their choice of an integrated approach, arguing that by using the same dollar to target multiple factors at once, their portfolio makes more efficient use of
- 5 years ago, 10 Oct 2016, 10:24am -
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