We should first clarify the three essential criteria for judging the asset allocation model:
1. A suitable asset allocation model must be able to reduce the maximum withdrawal because the whole retreat is extensive, and the risk is very high for the investment of a single stock and a single asset.
2. A suitable asset allocation model must be able to increase the quick ratio, that is, risk-adjusted returns, on the basis of reducing the maximum withdrawal; And reducing volatility and smooth investment returns.
3. After solving the problem of risk, if we can improve the annual yield, it is the best.
However, we should understand that the primary purpose of asset allocation is to reduce risk. So from the perspective of risk indicators, whether it is the maximum withdrawal, downside risk, volatility, or the worst monthly return, it may be effectively reduced through nine straightforward but not simple models. Through a simple ratio, although a little bit of annualized yield is lost, it brings the benefit of significantly reducing risk, which is really close to free lunch.
1. The risk of investing in a single stock and asset is enormous;
2. If you can't afford this risk, reasonable asset allocation is the only choice;
3. When selecting the target of allocation, we should not be arbitrary, and we must choose diversified assets that can smooth the economic cycle;
4. When determining the weight of each asset in the portfolio, if there is no excellent idea, the average weight will never be wrong;
How to improve the return on asset allocation?
With the above theory, logic, and data at the bottom, we are actually halfway on the road to global asset allocation. People have subjective initiative. Although we know through the above tests that asset allocation can reduce investment risks, the annual returns of these nine asset allocation models have been reduced, and we are certainly unconvinced. Moreover, the power of time compounding is very significant. If you invest continuously for 20 years, the annualized gap of 1.5% will become 35% through time compounding. Therefore, how to increase the overall return of the portfolio on the basis of asset allocation is the focus of this chapter.
In fact, in theory, we have many ways to increase the annual return of the backtest, such as adjusting the weight and changing assets according to the historical performance, but this has become data mining, pure talk on paper. As an asset manager through quantitative means, I absolutely can't dig a hole for myself and jump in. In so many years of research and practice, I very much believe that under the systematic framework, combined with traditional finance and behavioral finance, stock selection through quantitative models can improve long-term returns. Generally speaking, factor investment in such a way.
What we call factors in academia and industry is actually a collection of stock characteristics. For example, the small market value factor is to select a certain number of stocks with small market value because these stocks may perform better than large-cap stocks and the whole stock market in history. So if investors choose and invest in small-cap stocks in a systematic way, they may achieve excess returns in the long run.
