Jump to content

Welcome to the new Traders Laboratory! Please bear with us as we finish the migration over the next few days. If you find any issues, want to leave feedback, get in touch with us, or offer suggestions please post to the Support forum here.

  • Welcome Guests

    Welcome. You are currently viewing the forum as a guest which does not give you access to all the great features at Traders Laboratory such as interacting with members, access to all forums, downloading attachments, and eligibility to win free giveaways. Registration is fast, simple and absolutely free. Create a FREE Traders Laboratory account here.

BlueHorseshoe

Compounding Long-Only

Recommended Posts

Hello,

 

I've just begun trading a second account today (18 months in the planning and research), with rather different and more conservative goals to what I've done elsewhere, and I wanted to share some thoughts . . . Here's some basic info:

 

  • The strategy is long-only a portfolio of 12 ETFs
  • Positions are rebalanced monthly
  • Allocations are the result of a rule-based adaptive algorithm
  • Leverage is configured at 0.96
  • A position is held in all 12 markets at all times

 

So here's the conundrum . . .

 

The strategy shows a greater edge, when the simplest of money management approaches (reinvestment of return, reinvestment of dividends) is applied, than when position sizing is based on a static account size.

 

How can this be?

 

Imagine investing in 4 shares of single stock. After a strong month, during which the stock rallied 100%, you liquidate your position. Your equity has doubled. Does this mean that you now go and buy 8 shares of this stock? Of course not: the stock now costs twice as much. You can only buy 4 shares.

 

Now imagine you split your equity evenly between purchases of shares of two equally priced stocks, with 2 shares in each. The first doubles in value; the second exhibits no change whatsoever. Your account has increased in size by 50%, and so some of this increase in available equity is passed on to your new position size in the second stock (the one whose value remained static).

 

You can only buy 2 shares of the first stock, but you can buy 3 shares of the second. The second is the "weaker" stock - the one that has demonstrated the least return for a long-only trader.

 

Now consider my long-only strategy, which is designed to benefit only from price increases. When returns are compounded evenly in allocation to all components of the portfolio, and the strategy becomes more profitable with this type of compounding, then the increase in alpha MUST COME FROM THE WEAKER PERFORMING COMPONENTS.

 

That's right: the strategy has been designed to benefit when price goes up, but the money management element will increase returns purely by increasing allocation to those markets that have gone up the least (or even fallen).

 

What do people make of this? In a strategy predicated upon relative strength, breakouts, trends and outliers, is the money management actually drawing out additional alpha from mean reversion, of all things?

 

Kind Regards,

 

BlueHorseshoe

Share this post


Link to post
Share on other sites

What do people make of this? In a strategy predicated upon relative strength, breakouts, trends and outliers, is the money management actually drawing out additional alpha from mean reversion, of all things?

 

I think if there were a name that you could put to such a strategy it would be "trading the cycle" or possibly "value investing". If you watch a basket of individual stocks day-to-day it's fairly easy to spot the cycle in a market that is trending. This becomes more evident if the basket ranges across all sectors.

 

Reversion to the mean is a statistical fact of life as we know it, but playing that game can be frustrating. That's why I became a day trader... my account was always "reverting to the mean".

 

Edit: I'd like to think that I would be better at it now than I was then... not so sure though.

Edited by jpennybags

Share this post


Link to post
Share on other sites

How can this be?

 

 

Are the etfs equities markets biased?

 

Equities have done phenomenally well over the last 5 1/4 years. It was hard to lose money, long term, with anything that is a component of the s&p 500, or other related corporate index.

Share this post


Link to post
Share on other sites
Are the etfs equities markets biased?

 

Equities have done phenomenally well over the last 5 1/4 years. It was hard to lose money, long term, with anything that is a component of the s&p 500, or other related corporate index.

 

Hi MM,

 

A few are equity indices, but it's pretty well diversified with things like metals, energies, interest rates, and timber woodland in there as well. The weighting of each component in the portfolio is a dynamic feature, so the allocation to equities may be minimal (as it was in 2008 for example).

 

The strategy has underperformed the S&P500 throughout the past few years.

 

Kind regards,

 

BlueHorseshoe

Edited by BlueHorseshoe

Share this post


Link to post
Share on other sites
Hello,

 

 

What do people make of this? In a strategy predicated upon relative strength, breakouts, trends and outliers, is the money management actually drawing out additional alpha from mean reversion, of all things?

 

Kind Regards,

 

BlueHorseshoe

 

You have simply modified the portfolio strategy.....

if you rebalance every month you are making quantity to buy decisions based not on mean reversion, breakouts or any such changes in prices. You are making it based on your rule for rebalancing. There are many ways to do this, no rebalancing, rebalancing monthly, quarterly, at some change in % or absolute equity.....etc;etc.

 

Imagine it this way - you are a fund manager and you have to deal with subscriptions and redemptions each month.

You have to have a rule that either simply increases/decreases each quantity each month, OR you will have a change in each individual position proportionally - ie; investors either are diluted or get increased concentration to different positions for their returns going forward if you treat all investors the same with the same NAV calculation.

(One of the great reasons why similar styled funds have different returns even if they have similar entry exit triggers and many of them say its all in the money mgmt)

 

So in a nutshell its just another component to consider as part of an over all strategy for the portfolio simply as you have added the extra rule of rebalancing - (and why when many backtesting systems say they are able to test for a portfolio is BS, as it can get more complicated than they allow for)

 

......I also think that you are miss using the common usage of alpha. Your may or may not get extra alpha out of your strategy, depending on what the benchmark for your alpha measurement does. Hence while it might underperform the SP recently, it might be great over 10-15-20 years.

 

Your point might be better described as - if I apply this money mgt rule to a breakout type entry strategy does it massively change the returns over the long run, and deviate from the strategy I am implementing, or does it provide a better risk return profile--- at a complete guess it might smooth the returns and lower them.

Share this post


Link to post
Share on other sites
You have simply modified the portfolio strategy.....

if you rebalance every month you are making quantity to buy decisions based not on mean reversion, breakouts or any such changes in prices. You are making it based on your rule for rebalancing. There are many ways to do this, no rebalancing, rebalancing monthly, quarterly, at some change in % or absolute equity.....etc;etc.

 

Imagine it this way - you are a fund manager and you have to deal with subscriptions and redemptions each month.

You have to have a rule that either simply increases/decreases each quantity each month, OR you will have a change in each individual position proportionally - ie; investors either are diluted or get increased concentration to different positions for their returns going forward if you treat all investors the same with the same NAV calculation.

(One of the great reasons why similar styled funds have different returns even if they have similar entry exit triggers and many of them say its all in the money mgmt)

 

So in a nutshell its just another component to consider as part of an over all strategy for the portfolio simply as you have added the extra rule of rebalancing - (and why when many backtesting systems say they are able to test for a portfolio is BS, as it can get more complicated than they allow for)

 

......I also think that you are miss using the common usage of alpha. Your may or may not get extra alpha out of your strategy, depending on what the benchmark for your alpha measurement does. Hence while it might underperform the SP recently, it might be great over 10-15-20 years.

 

Your point might be better described as - if I apply this money mgt rule to a breakout type entry strategy does it massively change the returns over the long run, and deviate from the strategy I am implementing, or does it provide a better risk return profile--- at a complete guess it might smooth the returns and lower them.

 

Hi SIUYA,

 

The strategy is best termed 'relative strength' rather than 'breakout' - I just tend to lump anything that is directional and not mean reversion together as 'go with' - trend following included.

 

I may be misusing the term alpha . . . I was considering an equal-weighted portfolio of the components (ie a 'passive' investment in the portfolio) as the benchmark. The portfolio as I have implemented it, with variable weights, shows (historically) a greater return than this benchmark - is this not usually termed alpha?

 

The key question I'm asking though is this: when profits can be traced to a particular portfolio component, should the "benefit" of increased position sizing be passed to just this one component, or to the portfolio as a whole?

 

What I have found in this instance is that performance is improved when the benefit is passed equally to every component in the portfolio. This must mean that the improvement in performance is the result of increasing position size for poorer performing components, surely?

 

Cheers,

 

BlueHorseshoe

Share this post


Link to post
Share on other sites

hi,

re alpha yes - I thoughts you were simply talking about alpha 'generally' and not in direct ref to an equally weighted benchmark, and even then the benchmark needs to be standardised...but my confusion. (too much beer on the weekend in Prague) The way you are referencing it is good.

I think this is also one of the issues when people pigeon hole a strategy type as men reversion, breakout, trend etc; as it needs to be compared to a standard otherwise it is hard to compare apples and oranges.

''''''''''''''

"The key question I'm asking though is this: when profits can be traced to a particular portfolio component, should the "benefit" of increased position sizing be passed to just this one component, or to the portfolio as a whole?

 

What I have found in this instance is that performance is improved when the benefit is passed equally to every component in the portfolio. This must mean that the improvement in performance is the result of increasing position size for poorer performing components, surely?""

 

If you are rebalancing your whole porftolio, then you must be doing it taking into consideration all parts of the portfolio if you are doing it properly, otherwise its hindsight(???) How would you decide to not increase some or others....or are you simply doing the 'dogs of the dow ' theory and buying laggards but with extra leverage on top of a evenly balanced portfolio.

eg; buy 2 at $1, when one goes to $2 and the other is at $1, you dont sell any at $2, but simply buy the more of the one still at $1.

 

'''''''''''''''''''''''

I think I am getting at what you are talking about.....I remember doing a test once that had a portfolio limitation of not having too many correlated instruments and so it did not rebalance but it did not take new entries in what we determined to be highly correlated instruments if you were 'full up' in that sector. In a classic do your head in thing, during the Internet bubble approx 2000, because the portfolio was full of equities already it never took the nasdq buy signals. This meant massive underperformance of a benchmark.....and because we never rebalanced it never changed. When introducing variants (even small ones) for rebalancing, or spreading over further instruments, or even concentrating it more it had big changes in return profiles, and this also looked different over the time frame of the tests - eg; it never had the same issue when the naq burst and it even managed to put on a short.

So my guess is all you can do is simply test and see what happens over the long run and what you can live with....sometimes its great to be full tilt othertimes not.

Share this post


Link to post
Share on other sites
...but my confusion. (too much beer on the weekend in Prague)

 

It's probably me not explaining myself clearly enough to be honest :)

 

If you are rebalancing your whole porftolio, then you must be doing it taking into consideration all parts of the portfolio if you are doing it properly,

 

Yes, but this isn't necessarily linked to the compounding aspect, is it? For example, suppose I draw off any profits so that the account always remained at a fixed amount by month end, but still rebalance the portfolio each month based on a consideration of all parts of the portfolio.

 

The allocation of reinvested profits could differ from the allocations of the rebalanced portfolio aside from these. For example . . . 10k account with 60% (6k) allocated to Stock A . . . 1k portfolio profit at month end . . . Monthly rebalance, 70% of 10k (7k) allocated to Stock A, but only 30% of profits (300) allocated to Stock A, so position size is 7,300, and not 70% of 11k (7,700).

 

....or are you simply doing the 'dogs of the dow ' theory and buying laggards but with extra leverage on top of a evenly balanced portfolio.

 

Quite the opposite - it's basically "relative strength" - increase position size for the leaders, reduce position size for the laggards . . . then a load of fancy machine-learning thrown at it (purely for my own gratification and entertainment - think basic strategy returns 13%, me playing around with code for a year might add at best 2% and smooth volatility of returns if I'm lucky!).

 

You can see the shifts in weighting of each component in the subpane of the curve I've attached. One component always has a weight of zero (at the minute, metals).

 

We're talking very long term outlook here :)

 

So my guess is all you can do is simply test and see what happens over the long run and what you can live with....sometimes its great to be full tilt othertimes not.

 

Sure. I've done this, and I'm pretty comfortable with what I'm doing.

 

In a previous thread here I argued that the individual components of a portfolio should be 'rewarded' with increased position size dependent on their unique performance; I now find myself doing the opposite and spreading the benefit from components that have performed strongly to 'reward' equally those that have underperformed. And yet that's what masses of testing tells me is the right thing to do.

 

Cheers,

 

BlueHorseshoe

Allocation.thumb.png.e557b38b3cdff54683b46c683b350acb.png

Share this post


Link to post
Share on other sites

Yes, but this isn't necessarily linked to the compounding aspect, is it? For example, suppose I draw off any profits so that the account always remained at a fixed amount by month end, but still rebalance the portfolio each month based on a consideration of all parts of the portfolio.

 

The allocation of reinvested profits could differ from the allocations of the rebalanced portfolio aside from these. For example . . . 10k account with 60% (6k) allocated to Stock A . . . 1k portfolio profit at month end . . . Monthly rebalance, 70% of 10k (7k) allocated to Stock A, but only 30% of profits (300) allocated to Stock A, so position size is 7,300, and not 70% of 11k (7,700).

 

........

 

In a previous thread here I argued that the individual components of a portfolio should be 'rewarded' with increased position size dependent on their unique performance; I now find myself doing the opposite and spreading the benefit from components that have performed strongly to 'reward' equally those that have underperformed. And yet that's what masses of testing tells me is the right thing to do.

 

Cheers,

 

BlueHorseshoe

 

Hi, I thought I got it but now I am confused again (too much wine tonight)....from your example at the end of the month, its like you are reweighting based on 2 different formula components.

A normal reweighting formula --- this takes you from 60% to 70% for stock A and

An inverse profit formula - you are taking the profit for the month (1k) and rebalancing on a % of that, as an inverse % of the total weighting.

Hence you are actually increasing your winners by a smaller amount if there is a profit (assuming the first normal reweighting formula is flat).

 

So I get that you are now reweighting across all portfolio instruments. Regardless of where the PL came from.

 

I dont think compounding makes much difference as to how you are getting it as it looks more like you are capturing a little bit of both trend following and mean reversion. Like having a mix of two strategies in one, and you are making the most of the only free lunch there is - diversification......which makes a lot of sense....and is an interesting take on it.

Share this post


Link to post
Share on other sites

A normal reweighting formula --- this takes you from 60% to 70% for stock A and

An inverse profit formula - you are taking the profit for the month (1k) and rebalancing on a % of that, as an inverse % of the total weighting.

 

Hi SIUYA,

 

My lack of clarity again (and sadly I've had neither beer nor wine for several days).

 

The "Stock A/B" example I gave was purely by way of explaining that reinvested returns could be allocated with a separate criteria to the one used for rebalancing. So profits would not have to be distributed back to the poorer performing components.

 

This isn't what I'm doing though . . .

 

So I get that you are now reweighting across all portfolio instruments. Regardless of where the PL came from.

 

That's correct.

 

I dont think compounding makes much difference as to how you are getting it as it looks more like you are capturing a little bit of both trend following and mean reversion.

 

That's what I have concluded, although the intention was to capture the former (as my swing trading account focuses on mean reversion and I wanted diversification of styles across the two accounts).

 

As always, thanks for your thoughts and help.

 

Regards,

 

BlueHorseshoe

Share this post


Link to post
Share on other sites

Join the conversation

You can post now and register later. If you have an account, sign in now to post with your account.
Note: Your post will require moderator approval before it will be visible.

Guest
Reply to this topic...

×   Pasted as rich text.   Paste as plain text instead

  Only 75 emoji are allowed.

×   Your link has been automatically embedded.   Display as a link instead

×   Your previous content has been restored.   Clear editor

×   You cannot paste images directly. Upload or insert images from URL.


  • Topics

  • Posts

    • GBPUSD Continues To Faces Corrective Recovery Risk   GBPUSD continues to face corrective recovery risk as it eyes further bullishness. Support comes in at 1.2100 with a turn below that level shifting focus to the 1.2050 level. Further down, support resides at the 1.2000 level where a break will turn attention to the 1.1950 level. Further down, support lies at the 1.1900 level. On the upside, resistance stands at the 1.2200 with a turn above here allowing for additional strength to build up towards the 1.2250 level. Further out, resistance stands at the 1.2300 level followed by the 1.2350 level. On the whole, GBPUSD retains its corrective upside pressure    
    • havent done any crypto withdrawals or deposits, maybe support can answer that... Im more if a traditional trader, straight up regular connection tbh. 
    • Date : 19th August 2019. Events to Look Out for This Week. Trade worries remain and are expected to keep flip-flopping between risk-off and risk-back-on sentiment. Hopes for more central bank stimulus vies with fears that a number of major economies are simultaneously heading for recession, with a number of developing-world economies with high Dollar debt levels particularly exposed to the shifting financial cycle. Given these fears, further conciliatory remarks are likely from both China and the US with regard to their trade spat. Nevertheless, next week the economic calendar also focuses on the PMI releases globally.Monday – 19 August 2019   Consumer Price Index and Core (EUR, GMT 09:00) – The Euro Area CPI for July is expected to hold at 1.1%y/y in the final July reading from 1.3%y/y in June. Energy price inflation was clearly largely to blame and the core rate fell back to just 0.9%y/y from 1.1%y/y in the previous month. The core is anticipated to remain unchanged as well. With growth slowing down and the improvement on the labour market starting to fizzle out, chances are that inflation will continue to undershoot the ECB’s target range, thus adding to arguments for a comprehensive easing package in September. Tuesday – 20 August 2019   Monetary Policy Meeting Minutes (AUD, GMT 01:30) – The RBA left rates on hold in its last meeting, after back-to-back rate cuts in June and July, which put the cash rate at a record low of 1.00%, while Governor Lowe said that more easing measures could be needed. Minutes are expected to shed further light regarding future easing stance. Manufacturing Sales (CAD, GMT 12:30) – Manufacturing sales are anticipated to grow 2.0% in June after a 1.6% rebound in shipment values was revealed during May and following a 0.4% decline in April. The surge in transport equipment sales is consistent with the improving economy and as such fits with the BoC’s overall view that the economy is improving after temporary weakness in Q4/Q1. Wednesday – 21 August 2019   Consumer Price Index (CAD, GMT 12:30) – Canada’s CPI did not challenge the outlook for steady BoC policy this year. CPI slowed to a 2.0% y/y pace in June from the lofty 2.4% y/y clip in May. Inflation remains around the 2 percent target, with some recent upward pressure from higher food and automobile prices. Core measures of inflation are also close to 2 percent. Even though CPI inflation will likely dip this year because of the dynamics of gasoline prices and some other temporary factors, the annual and monthly numbers for July are expected to remain steady. As slack in the economy is absorbed and these temporary effects wane, inflation is expected to return sustainably to 2 percent by mid-2020. FOMC Minutes (USD, GMT 18:00) – The FOMC minutes, similar to the ECB Reports, provide an assessment as regards the views of the Fed’s policymakers about the interest-setter’s future stance and are usually a cause for FX turbulence. Thursday – 22 August 2019   Jackson Hole Symposium – Day 1 Services and Manufacturing PMI (EUR, GMT 07:30-08:00) – July PMI readings highlighted manufacturing weakness. This picture is likely to be seen again in the preliminary readings for August, as Manufacturing PMI has been forecast at 46.3 from 46.5 last month, still down from 47.6 in June, and indicates a deepening recession in a sector that has been hit very hard by global trade tensions and no-deal Brexit risks. Meanwhile Services PMI is expected to fall to 52.7 from 53.2. Services and Manufacturing PMI (USD, GMT 13:45) – Preliminary Manufacturing are expected to grow in August, to 51.0 from 50.4, as Services PMIs are likely to fall to 51.7 from 53. New Zealand Retail Sales (NZD, GMT 22:45) – Usually considered an index of consumer confidence and overall consumption in the economy, higher retail sales point to higher consumption and hence higher economic growth which is good for the currency. Friday- 23 August 2019   Jackson Hole Symposium – Day 2 Retail Sales ex Autos (CAD, GMT 12:30) – Retail sales are expected to have decreased in Canada, with consensus forecasts suggesting a -0.5% m/m decline should be registered in June and an unchanged ex-autos component at 0.3%. In May, Retail sales were disappointing, falling 0.1% for total sales and declining 0.3% for the ex-autos component. The decline in sales was driven by a 2.0% tumble in food and beverage stores. The report casts some doubt on the resiliency of the consumer sector to the ongoing parade of worrisome geopolitical and trade developments. Always trade with strict risk management. Your capital is the single most important aspect of your trading business.Please note that times displayed based on local time zone and are from time of writing this report.Click HERE to access the full HotForex Economic calendar.Want to learn to trade and analyse the markets? Join our webinars and get analysis and trading ideas combined with better understanding on how markets work. Click HERE to register for FREE!Click HERE to READ more Market news. Andria Pichidi Market Analyst HotForex Disclaimer: This material is provided as a general marketing communication for information purposes only and does not constitute an independent investment research. Nothing in this communication contains, or should be considered as containing, an investment advice or an investment recommendation or a solicitation for the purpose of buying or selling of any financial instrument. All information provided is gathered from reputable sources and any information containing an indication of past performance is not a guarantee or reliable indicator of future performance. Users acknowledge that any investment in FX and CFDs products is characterized by a certain degree of uncertainty and that any investment of this nature involves a high level of risk for which the users are solely responsible and liable. We assume no liability for any loss arising from any investment made based on the information provided in this communication. This communication must not be reproduced or further distributed without our prior written permission.
    • AUDUSD Market Dragged Lower on Bears Dominance   AUDUSD Price Analysis – August 15 The bears were in full control moving the market lower in the prior session, although in the present session we see the pair found buyers around the level at 0.6748 for the 4th day in a row while the pairs bear dominance is evident falling to lowest close since the beginning of the year.   Key Levels Resistance Levels: 0.7297, 0.7207, 0.7085 Support Levels: 0.6748, 0.6676, 0.6620   AUDUSD long term Trend: Bearish In the bigger picture of the daily time frame, the decline from the level at 0.7207 (high) is seen as resuming the long term downtrend from 0.7297 (February high). Firm break of the level at 0.6876 (low) should confirm this bearish view.   On observation, further fall may be seen to the level at 0.6620 (low) next. On the upside, the break of the level at 0.7085 resistance is needed to be the first sign of medium-term bottoming. Otherwise, outlook will remain bearish even in case of a strong rebound.     AUDUSD short term Trend: Ranging On the flip side of the 4-hour chart, the AUDUSD is staying in consolidation from the level at 0.6676 and it’s intraday bias remains neutral first. On the upside, the break of the level at 0.6827 will extend the rebound.   But upside should be limited below the level at 0.6909 support turned resistance to bring fall resumption. On the downside, the break of the level at 0.6676 may target 100% projections from the level at 0.7085 to 0.6827 from 0.7085 at 0.6620 level reflecting on the daily chart.
    • EURJPY Approached Recent Swing Lows, Likely to Breach the Low of the Year on the Level at 117.50   EURJPY Price Analysis – August 16   The pair depreciated again in value against the Japanese Yen. The currency pair during the mid-week breached both the upper and lower horizontal lines on the moving average 5 and 13 while completing another lap on the low in today’s session towards the low level at 117.50.     Key Levels   Resistance Levels: 123.01, 121.40, 119.91   Support Levels: 117.50, 117.00, 114.84   EURJPY Long term Trend: Bearish The Daily time frame displays the EURJPY at the low, showing the pair is also testing a swing area on the level at the 117.50 to the level at 118.16 below the moving average 5 areas. The price attempted to dip below the area on August 12 to the low for the year on the level at 117.50, but could not keep the momentum going. The swing area was reestablished as support on August 13 and again today   However, buyers are trying to lean against the low level at 117.50, on the retest and hoping for a quick bounce. The trend is showing a bearish outlook in the medium and long term.   EURJPY Short term Trend: Ranging On its Intraday, the bias in EURJPY remains neutral for the moment. With the level of 119.91 minor resistance intact, further decline is in favor. Although a break of the level at 117.50 will resume a large downtrend to the level at 114.84 support next.   However, on the break of 119.91 resistance will indicate short term bottoming. A stronger rebound should be seen to the horizontal resistance line now at 121.40.
×
×
  • Create New...

Important Information

By using this site, you agree to our Terms of Use.