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Balanced Strategy: Value Funds

|Includes:EDV, IJJ, IJS, iShares S&P 500 Value ETF (IVE), RFV, RPV, RZV, TLT

This strategy of quarterly rebalancing the portfolio on the basis of risk parity and relative strength has satisfactory performance in general but here we focus on its application to the baskets containing large, mid and small-cap, mostly value, funds (specific funds used for the study are shown at the end of this post) from a few different families.

First we summarize the various performance metrics for the strategy applied to the funds. Also shown, for the purpose of comparison, are the corresponding metrics for DFSVX and PRWCX. The latter are by no means the appropriate benchmarks, but are used here mainly because they are well known equity and allocation funds whose performance has been quite attractive during their lifetimes. (As a personal aside, none of these funds is available cost-free to me in my personal accounts, and hence this study.)

Family/Fund

CAGR (%)

Sharpe Ratio (Sortino)

Max. Drawdown (%)

Min. Annual Return (%)

2003-2013

       

iShares ETFs

13.8

1.0 (1.8)

16.9

7.2

Fidelity

15.6

1.2 (2.1)

15.0

4.6

Vanguard

14.0

1.1 (1.9)

15.2

2.6

T. Row Price

14.1

1.1 (2.0)

15.2

7.7

J. P. Morgan

14.1

1.1 (2.0)

15.6

6.9

DFSVX

13.7

0.6 (1.1)

61.2

-36.8

PRWCX

10.4

0.8 (1.2)

36.6

-27.2

2005-2013

       

American Century

12.2

1.0 (1.7)

14.6

7.0

DFSVX

8.4

0.4 (0.7)

61.2

-36.8

PRWCX

8.3

0.6 (0.9)

36.6

-27.2

2007-2013

       

Guggenheim ETFs

14.4

0.9 (1.5)

19.8

1.8

DFSVX

6.8

0.4 (0.6)

61.2

-36.8

PRWCX

7.7

0.6 (0.8)

36.6

-27.2

Click to enlarge

Clearly, inasmuch as the improved relative performance is pervasive across the various fund families considered here, the strategy seems to provide a robust alternative to the buy and hold portfolio of DFSVX or PRWCX. It should be noted, however, that the one and five year returns (for the period ending in 2013) of DFSVX are considerably superior as shown in the following table.

Family/Fund

1 Year CAGR (%)

3 Year CAGR (%)

5 Year CAGR (%)

10 Year CAGR (%)

iShares ETFs

24.4

21.0

16.9

13.0

Guggenheim ETFs

30.9

22.9

18.4

 

Fidelity

26.4

22.1

20.2

14.0

Vanguard

27.6

22.0

18.5

13.0

Am. Century

18.9

17.2

14.6

 

T. Row Price

23.8

19.2

17.0

13.2

J. P. Morgan

24.1

20.8

17.5

13.5

DFSVX

42.4

17.0

22.9

10.0

PRWCX

22.4

13.2

17.1

9.0

Click to enlarge

The Method

The general approach is quite straightforward.

Select a basket of equity funds, and add to it some fixed income funds (here we have used TLT and EDV for the latter). Use one of the following strategies to rebalance every quarter.

Aggressive Strategy:

  • On the first trading day of every quarter, select a subset of assets in the basket on the basis of the total returns during the immediately preceding quarter. The number of selected assets should not exceed the number of equity funds in the basket.
  • The weights of the assets in the selected basket are determined on the basis of risk parity allocation that uses the daily returns for the prior quarter.

With the restriction on the number of selected assets, there would be quarters wherein one is invested only in equity funds, and hence this strategy is characterized as aggressive. However, depending on the market conditions, the hope is that the fixed income assets will be included in the selected basket during the downturns.

Conservative Strategy:

On the first trading day of every quarter, select a subset of assets in the basket on the basis of the total returns during the immediately preceding quarter. The number of selected assets must be more than the number of equity funds in the basket.

The weights of the assets in the selected basket are determined on the basis of risk parity allocation that uses the daily returns for the prior quarter.

With the restriction on the number of selected assets, a part of the portfolio would always be invested in one or more fixed income assets, and hence this strategy is characterized as conservative. Clearly this strategy is expected to underperform the market, perhaps substantially, during the boom times.

Moderate Strategy

Depending upon one's risk tolerance, a fraction of the portfolio is invested in the aggressive strategy, and the rest in the conservative strategy.

The following equity funds (representing large, mid, and small cap value funds, but in some case not necessarily value funds) were used in this study:

iShares ETFs: IVE, IJJ, IJS

Guggenheim ETFs: RPV, RFV, RZV

Fidelity: FLPSX, FDVLX, FSCRX

Vanguard: VWNDX, VASVX, VSMAX

American Century: TWEIX, ACMVX, ASVIX

T. Rowe Price: TRVLX, PRSVX, TRMCX

J.P. Morgan: HLQVX, JAMCX, PSOAX

Further (a) three assets were selected for the aggressive strategy, (b) four were selected for the conservative strategy, and (c) 70% of the portfolio was invested in the aggressive strategy, and 30% in the conservative strategy.

A typical asset allocation diagram for the Fidelity funds is shown below.

(click to enlarge)Click to enlarge

The equity curves for the best and worst performing family and the two funds are shown below.

(click to enlarge)Click to enlarge

Disclosure: I am long IJS.

Additional disclosure: This is not meant to be investment advice but just a summary of some results that might be of interest.

Stocks: IVE, IJJ, IJS, RPV, RFV, RZV, TLT, EDV