Historical Results and Commentary
November 11, 2006
Holdings
|
|
Nov-06 |
|
1 |
F |
|
2 |
NBG |
|
3 |
PCLN |
|
4 |
NKE |
|
5 |
BA |
|
6 |
VRSN |
|
7 |
SNP |
|
8 |
CAT |
|
9 |
INTC |
|
10 |
C |
|
11 |
TOA |
|
12 |
FNF |
|
13 |
MS |
|
14 |
TKC |
|
15 |
HMC |
|
16 |
CRYP |
|
17 |
X |
|
18 |
DOW |
|
19 |
COP |
|
20 |
ACH |
Performance of Individual Stocks For last 3 months:
|
Nov-06 |
|
|
FNF |
17.52% |
|
COP |
-7.19% |
|
CAT |
-10.69% |
|
NKE |
23.42% |
|
BA |
13.11% |
|
VRSN |
28.64% |
|
SNP |
26.36% |
|
PCLN |
31.34% |
|
INTC |
18.79% |
|
C |
7.33% |
|
TOA |
-25.41% |
|
F |
16.42% |
|
MS |
17.75% |
|
TKC |
12.41% |
|
HMC |
8.76% |
|
CRYP |
-15.54% |
|
X |
18.18% |
|
DOW |
14.40% |
|
NBG |
19.59% |
|
ACH |
20.19% |
Total Increase (Decrease) since last quarter: 11.77%
Additions: None
Subtractions: None
Commentary: Does Rebalancing Create More Balance?
This portfolio is rebalanced every 3 months so that all stocks in it have an equal weighting of 5 percent. However, I have recently been wondering if this is the best strategy for managing this portfolio. Initially, I chose this method because it was easy. However, over these past few years, I have noticed that this particular strategy has had some interesting effects, which were not considered at the time I initiated this website:
- Stocks that go down and down and down, and then down some more, have a disproportionate effect on the value of the portfolio. Since the portfolio is rebalanced, these losers get an infusion of cash each quarter, which they squander without mercy
- Stocks that go down and down and down, and then come up and up and up have a disproportionately positive effect on the value of the portfolio. Since these eventual winners get an infusion of cash each quarter, their terminal value is much higher than a buy and hold strategy’s terminal value,
- Since stocks are not weighted for volatility, super volatile stocks probably have more of an impact on the portfolio than less volatile stocks.
So, should I change my portfolio strategy? I have backtested the portfolio without rebalancing, using initial sums of $10,000, $100,000, and $1,000,000. I have assumed a $9.99 trading fee each time a purchase or sale is made of a given security. The following 3 charts show these results:
From this perspective, it looks like if you have a lot of money, you are slightly better off rebalancing, even with fees. Slightly. However, had I don’t this analysis a few quarters ago, the un-rebalanced portfolio would have been the best. So, probably there is not enough data to conclude one way is better than the other. Of course, if you are like me and are closer to being a pauper than a prince, rebalancing does not pay off, and a buy-and-hold strategy is the best, and gives ample returns[1].
I also looked at the quarterly differential between the rebalanced index and the non-rebalanced index. The results are interesting. In a given quarter, one could gain or lose over 800 basis points by switching strategies! However, as the above graphs showed, over time these results seem to even out.
Additionally, I looked at the covariance between the differential shown above and the percentage gains on the Bandy 20 Index. I thought that perhaps under certain market conditions it would be better to rebalance, and under other conditions it would be best not to rebalance. The following graph shows that there is a slight indication that when the Bandy 20 Index returns more than 5 percent, one would be better off rebalancing, and when the Bandy 20 returns less than 5 percent, one would be better off not-rebalancing. However, the correlation is very very weak, and this knowledge is only useful if one could know the return of the Bandy 20 Index in a given quarter before the quarter started.
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