Many different measures of portfolio diversification have been developed in the financial literature, from asset weights-based diversification measures like the Herfindahl Index1 to risk-based diversification measures like the Diversification Ratio of Choueifaty and Coignard2 to other more complex

There is a very cool webinar coming up next week that I suggest everyone to register and attend link Daniel Bloch, also often listed as Daniel Alexandre Bloch has contributed a lot of research on using ML for options pricing. Also Mr Block published a very thorough free textbook options pricing that

This is the third post of a short series of posts on extreme events in financial time series. In the first post, we have introduced power-law theory to describe and extrapolate the chance of extreme price movements of the S&P500 index. In the second post, we took a closer look at how statistical

What are the Research Questions? There is abundant literature on the relationship between the business cycle and future stock returns. The traditional view is that stocks are rationally priced to immediately reflect investors’ expectations about future economic activity and that expected excess

As a portfolio manager or as a portfolio construction analyst, the most usual way to manage a fund is to elaborate a Strategic Asset Allocation (a.k.a. “SAA”), that is reviewed on a mid or low frequency, on which PM or researchers add their tactical views, i.e. a Tactical Asset Allocation

This article aims is to evaluate/demonstrate the effectiveness of hedging a long only portfolio of US equities with a short position in Russell 2000 (I used IWM ETF since I don’t have rolling future prices) using an extended version structural entropy indicator. I first read about structural

As Sam Adams and I explained in our new book, “Your Essential Guide to Sustainable Investing,” while sustainable investing continues to gain in popularity, economic theory suggests that if a large enough proportion of investors choose to favor companies with high sustainability ratings (green

Reliance on linear correlation coefficients and joint normal distribution of returns in multi-asset trading strategies can be badly misleading. Such conventions often overestimate diversification benefits and underestimate drawdowns in times of market stress. Copulas can describe the joint

In our last installment, we reviewed the performance–across four regions–of a machine-learning-based Sentix relative sentiment model for tactical asset allocation. The regions included: the USA, Europe, Japan, and Asia ex-Japan (referred to as USA, EUR, JPN, and AEJ, respectively, in the charts

Short sellers play a valuable role in keeping market prices efficient by preventing overpricing and the formation of price bubbles in financial markets. Market efficiency is important because an efficient market allocates capital efficiently. If short sellers were inhibited from expressing their

Marco Avellaneda has contributed tremendously to financial mathematics, and to volatility trading in particular, has passed away earlier this year. Here I will review one of his last papers on trading VIX futures. I think most readers of this blog have modeled VIX futures understand both the risks

I previously described on this blog an intuitive way of performing stress tests on a correlation matrix, which consists in shrinking a baseline correlation matrix toward an equicorrelation matrix12. A limitation of this method, though, is that it alters all the correlation coefficients of the

Despite being different metrics, CPI and breakeven inflation rates exhibited the same trends since 2003 The securities with high betas to inflation come from diverse sectors, not just from energy and commodities Portfolios often feature hidden inflation exposure that should be revealed via factor

Twitter is an interesting dataset for researchers interested in consumer beliefs. (200 million monthly active users worldwide (Elon Musk may disagree!) and about 10 million active users in Italy in 2019 (AGCOM 2020)). Inflation expectations are at the heart of any consumption and investment decision

Surprisingly, in the literature there are only few effective formulae for asset allocation. They are based on the asset types and, in theory, they should define investors’ risk appetite. For instance, a large exposure in stocks should define aggressive investment style in comparison to investing

Empirical research, including the 2017 paper “A Century of Evidence on Trend-Following Investing,” has found momentum to be a persistent and pervasive factor in returns of not only stocks but other asset classes as well, including bonds, commodities, and currencies. Recent empirical research on

We dedicated several articles to how we created 100-year history for bonds, stocks, and commodities. Now we analyze the 50 worst one-day shocks and the following days in each of the abovementioned asset classes. In addition to that, we also look at how the Multi-Asset Trend-Following strategy

More than 80% of cryptocurrency tokens trade below their first trading price Tokens are diverse in their functions, but all types have been losing money consistently Token financing seems to be more beneficial for the issuer than investors INTRODUCTION A falling stock market is not bad for everyone.

With a capitalization of $1.3 trillion, cryptocurrencies are now (2022) roughly 50% of the value of US dollars and coins. What was once a fad, has now become prominent and increasingly diverse from an investor’s point of view. In response, this article discusses five key features and concepts

Classic trend following is based on market prices or returns. Market trends are relatively cheap to produce, popular, and plausibly generate value in the presence of behavioral biases and rational herding. Macro trends track relevant states of the economy based on fundamental data. They are more

Investing in Deflation, Inflation, and Stagflation Regimes Guido Baltussen (Erasmus University Rotterdam), et al. July 2022 We examine asset class and factor premiums across inflationary regimes. As periods of high inflation and deflation are relatively uncommon in recent history, we use a deep

Recent research shows that B/M is losing explanatory power (Asness et al. 2015, Fama-French 2015, Hou et al. 2015). Some have theorized that the decrease in effectiveness in B/M is due to the increasingly large value of intangible assets. Forty years ago the market was dominated by Kodak, General

We all know that the more indebted a company is, the greater the risk of bankruptcy. But what is really the best way to measure this indebtedness? In this post we will compare two of the best known leverage ratios: Debt/Equity (Debt-to-Equity) and Net Debt/EBITDA (Net Debt-to-EBITDA). Leverage

An innovative company has launched two ETFs to captures the night effect - the difference between stock market returns during the trading day, and when the market is closed. It is a well-documented effect that most of the market gains come overnight returns, and that day returns are relatively flat.

Christoph Reschenhofer contributes to the factor-based investment literature with his April 2022 paper, “Combining Factors,” in which he investigated the performance of multifactor portfolios formed via a combination of stock characteristics scores. He began by noting that while “the finance

Stochastic processes play a key role in modelling the behavior over time of many financial assets. These mathematical descriptions of reality help making investment decisions. They can be used to price stock market options, make Monte Carlo simulations or define probabilities of expected returns,

Value is the clear winner of YTD 2022 Value, Momentum, and Low Volatility factors were positively correlated, which changed to previous years The Quality factor performed worst, which can be explained by a bias towards tech stocks INTRODUCTION We present the performance of five well-known factors on

Asset managers are often fixated on predicting the best performing asset in the near future – be that a month ahead, six months, a year or two. Of course, it would be great to know what will appreciate in price the most (and subsequently – what to invest in right now), but all we can do is

Regular listeners to the podcast I ocasionally co-host will know that I enjoy some light hearted banter with some of my fellow podcasters, many of whom describe themselves as 'pure' trend followers, whilst I am an apostate who deserves to be cast into the outer darkness. My (main) sin? The

I was browsing LinkedIn the other day and saw a bar chart of annual average VIX levels, and noticed that they kind of go up and down as if it was a cycle. Intra-day effects of elevated volatility near open and close are well-known, as well as some day-of-week patterns. Seasonal effects of VIX are

If 2022 has taught us anything, it is that our understanding of the inflationary process is woefully incomplete. Increasingly, it seems that the easy money era of the 2010’s created a blind spot in the market: stable inflation and ample liquidity were taken for granted. The risk of high (indeed,

Most defensive and diversifying strategies generated negative returns in YTD 2022 The correlation of almost all of these strategies to equities was too high Only managed futures generated attractive diversification benefits INTRODUCTION Economics and investing are all about data, eg GDP has

A lot of people ask me how I invest my own money, and I am always happy to oblige. But I have never discussed the topic in the public (unlike my friend Meb, who has a great post dedicated to the subject). However, this past week Justin and Jack asked if they could grill me on my personal portfolio

Broad macroeconomic trends, such as inflation, economic growth, and credit creation are critical factors of shifts in monetary policy. Above-target trends support monetary tightening. Below-target dynamics give grounds for monetary easing. Yet, markets may not fully anticipate policy shifts that

The AllocateSmartly website often has interesting posts. Recently I was reading the article Trending Fast and Slow and thought about other ideas to test. The article is based on research on trading the SPX and depending on the current historical volatility one would either use a 12-month or a

Ron Kaniel, Zihan Lin, Markus Pelger, and Stijn Van Nieuwerburgh contribute to the asset pricing literature with their January 2022 study “Machine-Learning the Skill of Mutual Fund Managers” in which they used machine learning in the form of an artificial neural network to examine the universe

Can the returns from running factor strategies be enhanced if institutional investors selectively and actively participate? Most of the evidence presented in this paper would suggest the answer is an unqualified YES. The authors argue this would require institutional investors to possess and then

In order to develop complex strategies for a successful asset allocation, portfolio managers need profound knowledge on the field. Apparently, this is the key to be able to consistently beat the market. In this post we will learn how to design investment strategy based in Modern Portfolio Theory in

A recent spring 2022 crisis in the cryptocurrency market emphasized the importance of market-neutral crypto trading strategies. It’s not enough just to HODL crypto market and hope for the everlasting bull market. Therefore, we continue our series of research articles about the cryptocurrency

Most investors treat factor and macro variables differently Including macro variables improves a factor exposure analysis Both should be considered simultaneously when analyzing investment portfolios INTRODUCTION The investment world is full of conundrums. For example, discussions on investment

This post focuses on the costs and benefits of including generic broad-based emerging market exposures in one’s portfolio (Note, we do not discuss factors/freedom/etc.). The analysis is not meant to be exhaustive and/or highly complex. Nor is it meant to sway the reader in one direction or the

This is a test of the paper Predicting Bond Returns: 70 Years of International Evidence. The authors use an ensemble model to trade US and international treasury bonds. Over the last 60+ years the strategy would have produced long-term returns in line with buy & hold, while significantly

In a blog post a few years ago I showed that the Fed Day edge has basically played out before the announcement even takes place. Returns after the announcement have been somewhat random. In last night’s subscriber letter I decided to take a similar look, but only examining instances during

In the financial field, managers usually take advantage of the great development in machine learning techniques to improve their models and get the best performance of their portfolios. These techniques may be clustering, neural networks, or even a more traditional one as optimization algorithms. In

By the middle of 2019, we had been running an ensemble of relative sentiment(1) indicators in live asset management for several years. One of the components of that ensemble was a strategy that looked at Sentix sentiment indices. For those unfamiliar with Sentix (a German company), every week it

Cryptocurrency investing is a widely debated topic and one can find plenty of debates on Twitter discussing the fed, fiat currencies, and inflation. Regardless of where you fall on the crypto spectrum, we try and focus on research-centric takes on various investment themes whenever possible. The

This is a quick follow-up to my previous post with comments on Artur Sepps's video. From the start Mr Sepp sets up the practical problem familiar to anyone in the crypto options space. The leader is Deribit - an exchange that I wrote about extensively in this blog with ~ 89% market share. The

A few years back I wrote about Zweig Breadth Thrusts in some detail. The Zweig Thrust takes a 10-day exponential moving average of the NYSE Up Issues %. It looks for a move from Over the last 3 days we have essentially what could be considered the inverse setup trigger. The NYSE Up Issues % 10ema

Price charts normally display price over time. Or in some special cases price over ranges or momentum. In his TASC articles in June and July 2022, John Ehlers proposed a different way of charting. The ratio of two parameters, like price over momentum, or price A over price B, is displayed as a 2D

Investors tend to talk more about sector than factor performance However, few investors conduct a regression-based sector exposure analysis The high correlations of sectors, even if structured market-neutral, makes this less meaningful INTRODUCTION Switch on CNBC or Bloomberg TV during US stock