SUMMARY
Overview
Based on the length of term and our objective, we are Value Traders using Fundamental
Analysis in order to actively manage our moderate-risk investments. Technical Analysis is
also considered and applied to our estimations of when to buy, but used much less than the
Fundamental Analysis. Our overall trading goal is to be 7% better than the market within the 3
months of active trading.
1 Million Euros – Capital Allocation
55% Stocks
45% Bonds: 15% Government, 30% Corporate
Allocation of Funds
€1000000 will be divided between Stocks and Bonds, both Government
and Corporate.
Approximately €550000 will be allocated to Stocks and €450000 to
Bonds, however, of the €450000 given to Bonds, €150000 will be
budgeted to Government Bonds, and €300000 to Corporate Bonds.
Bollinger Bands
Bollinger Bands are very important in our analysis as a measurement of volatility that uses
standard deviation and moving averages in order to follow the market. This form of Technical
Analysis will be used later in determining when to buy. Because standard deviation is used in
Bollinger Bands instead true average range like in Keltner Channels, where buy and sell signals
are seen more often, there is a higher ‘statistical significance’ to the results from Bollinger Bands.
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30%
15%
55%
Stocks Goverment
Corporate
STOCKS
Buying
1. In order to determine what type of stocks to buy, the P/E Ratio must be calculated. This
should be done for each stock and include past data, preferably from the past 5 years in order to
better understand the ratios significance. The P/E ratios of stocks within the same industry
should then be averaged and stocks yielding below-average ratios should be accepted.
2. Free Cash Flow is another important factor in determining what you should invest. A
company’s Free Cash Flow needs to be positive and if given previous data, it should have been
positive for at least two yearly quarters behind the current one.
3. Sustainable Growth Rate is another key test and one should invest in companies who hold the
highest growth rate within the industries. Sustainable Growth Rate can be calculated by
multiplying the Plowback Ratio and the ROE. The Plowback ratio consists of previous data and
is written as: 1 – Dividend/EPS
4. In order to determine when to buy, the Intrinsic Value > Market Value
Intrinsic Value can be calculated by using the Expected Dividend for the next year (Dividend last
year •(1 + Sustainable Growth)) divided by (Expected Rate of Return-Sustainable Growth Rate).
The Sustainable Growth Rate (ROE x Plowback Ratio) and Expected Rate of Return (Risk-free
rate + Beta (Market return + Risk-free rate)) must also be calculated.
Reuters can be used for Beta and Rate of Return on Treasury Bills can be used as the Risk-Free
Rate.
5. Bollinger Bands can be used by incorporating simple moving averages and standard deviation
of the stock, as discussed above. Parameters need to be set, for example, a 20-day period is often
used and can be incorporated in the parameters. The standard deviation required would be 2,
this is a part of the Bollinger Band requirement. The High and Low (Upper and Lower) Binding
Bands need to be in accordance with the Intrinsic Value being higher than the Market Value.
Based on Bollinger Bands, buy when the market value lies beneath the lower Band and intersects.
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Selling
1. Opposite to buying, whenever the Intrinsic Value < Market Value, a trader should sell.
Intrinsic Value can be calculated by using the Expected Dividend for the next year (Dividend last
year •(1 + Sustainable Growth)) divided by (Expected Rate of Return-Sustainable Growth Rate).
The Sustainable Growth Rate (ROE x Plowback Ratio) and Expected Rate of Return (Risk-free
rate + Beta (Market return + Risk-free rate)) must also be calculated.
Reuters can be used for Beta and Rate of Return on Treasury Bills can be used as the Risk-Free
Rate.
2. The same application of the Bollinger Bands are required, including parameters, however,
with the High and Low (Upper and Lower) Binding Bands, we will now determine where the
Market Value goes above the Upper Band and intersects it. This will determine where to sell.
3. Additionally, for those selling stocks, something called a ‘Trailing Stop Loss’ can be
implemented. This ensures that stocks will be protected from major losses when the market
experiences volatile This is a security measure put in order to protect losses in volatile
situations. A ‘Trailing Stop Loss’ is an automated “stop loss” that, for example, will sell stocks if
the Market Value drops below an ‘acceptable’ value. For example, if we input 19%, and at any
point the Market Value drops below 19% of what we paid for the stock, it is sold. However, the
mechanism updates itself as the stock price rises.
Markets
We’ve identified both Bullish, such as the Tech boom, and Bearish, such as the Housing Market
in the USA, markets and would advise those trading to sell automatically in a Bearish Market.
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BONDS
Corporate Bonds
Here’s the how-to of picking your Corporate Bonds:
1. Identify Bond Market by Region – Americas, Europe, Asia
2. Identify Bond Market by country – United States, Switzerland, China, Singapore
3. Pick bonds with high ratings, such as B, BB or BBB
4. Identify type of bond: Non-callable standard bonds
When to buy:
The yield-to-maturity of each classification must be calculated in comparison to the the given
markets, like the examples given below.
US:
BBB : When Yield-to-maturity of the bond is approximately 0.23% higher than average yield-tomaturity of US S&P 500
BB : When Yield-to-maturity of the bond is approximately 0.60% higher than average yield-tomaturity of US S&P 500
B : When Yield-to-maturity of the bond is approximately 0.59% higher than average yield-tomaturity of US S&P 500
China: When Yield-to-maturity of the bond is approximately 0.49% higher than average yieldto-maturity of CHINA S&P 500 (for BBB – B bond’s rating class).
When to sell:
US:
BBB : When Yield-to-maturity of the bond is approximately 0.21% lower than average yield-tomaturity of US S&P 500.
BB : When Yield-to-maturity of the bond is approximately 0.25% higher than average yield-tomaturity of US S&P 500.
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B : When Yield-to-maturity of the bond is approximately 0.29% higher than average yield-tomaturity of US S&P 500.
Entries: When to sell
China: When Yield-to-maturity of the bond is approximately 0.41% lower than average yieldto-maturity of CHINA S&P 500 (for BBB – B bond’s rating class).
In order to determine the quantity, we must look at our total Corporate Bond allocation,
€300000, and buy the quantity than can be afforded.
Government Bonds
With Government bonds, in order to identify the market and given the 3 month time constraint,
it’s best to purchase and sell Government Bonds with a 1 year maturation, however 1-3 years can
be acceptable.
At the beginning of 3 month period, Bonds would need to be bought and would then need to be
sold at the end of the period is interest rates fell. If interest rates increase or maintain consistency,
Bond should be kept until maturity.
With the €150000 allocation, quantity depends on how many Government Bonds can be
purchased within the given budget.
(1) Dissagree |——————————————————————————————| (5) Agree
Verifiability
It is easy to do an historical simulation
It is easy to see what the profit and risk of the strategy is
Quantifiability
The strategy has a highly detailed quantitative measures
The strategy accurately specifies a measure of profit and the risk
“The strategy optimally accounts for the capitalization required to obtain the maximum rate of sustainable return.
”
Consistency
The strategy accurately specifies entries, exits, trading size and risk management
The same trading rules is consistent for each and every trade produced by the trading strategy.
Objectivity
trading rules are not influenced by unsubstantiated opinion and/or uncontrolled emotions.
The objective and systematic trading strategy is external to the mind of the trader
Extensibility
The strategy is easily extensible to in any world area and any particular market (not only stocks and bonds)
Personal Assesment
The strategy is easy to implement
The strategy is well formulated
the strategy is self contained (no need to make add-ons from my part)
the strategy could easy be totally automatised
I would use the strategy to invest my own money
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