Professor, Columbia University & Managing Partner, Sauma Capital LLC
Welcome to the third issue of the twelfth volume of The Journal of Investment Strategies, which contains three research papers.
In our first paper, “Optimal trend-following portfolios”, Sebastien Valeyre presents an optimal portfolio model derived from a trend-following signal: a novel autocorrelation model integrated with a covariance matrix of trends and risk premiums. Valeyre has developed practical models for this covariance matrix, leading to the formation of an optimal portfolio, which is decomposed into four basic components that yield four basic portfolios: Markowitz, risk parity, agnostic risk parity and trend-following on risk parity. Each component represents a distinct approach to portfolio construction, addressing different aspects of market behavior and risk management. The efficacy of this optimal portfolio is empirically validated through backtests conducted on a cross-asset trading universe, demonstrating its superior performance compared with traditional models. This research expands the literature on optimal portfolio models and offers a comprehensive framework that not only describes and rationalizes previously developed portfolios but also enhances them with new theoretical and practical insights.
In the second paper in this issue, “Integrated stock–bond portfolio management”, Xiaochuan Pang, Shuping Wu and Shushang Zhu introduce a stock–bond portfolio selection model that effectively combines market and credit risk using the CreditMetrics approach. The model employs conditional value-at-risk as its primary risk measure: a choice motivated by the typically skewed nature of bond returns. Through both simulations and empirical testing, the authors demonstrate that conditional value-at-risk is an appropriate risk measure for stock–bond portfolio selection. Significantly, the integrated portfolio, which considers both stocks and bonds, consistently outperforms strategies that consider stocks and/or bonds separately by providing more flexible and stable investment opportunities.
In the issue’s final paper, “Assessing the potential for asset diversification: an analysis of Brazilian stock indexes, Bitcoin, gold, crude oil, and exchange rates”, Ahmad Monir Abdullah, Hamdy Abdullah, Norazlan Alias and Mara Ridhuan Che Abdul Rahman explore the dynamics between Brazil’s conventional and Islamic stock indexes and key financial assets: Bitcoin, crude oil and gold. This analysis, which covers the period from 2011 to 2022, is particularly significant given Brazil’s role as a major BRICS nation and the growing interest in its financial markets, including its lesser-studied Islamic stock index. The study focuses on the critical role that volatility modeling and prediction in finance plays in effective risk management and investment strategies. Employing advanced analytical techniques, the authors’ research provides detailed insights into the correlations between Bitcoin, crude oil and gold and their portfolio diversification implications. Notably, Bitcoin demonstrates minimal correlation with Brazil’s stock indexes, positioning it as a potential diversification tool. However, given the volatility of Bitcoin during 2011–17, the paper highlights gold’s role as a more stable asset, particularly for holding periods of less than 64 days. Contrary to expectations, the Islamic index serves neither as a protective asset nor as a hedging tool, challenging the assumption of its independence from the conventional index and suggesting that Shariah screening may not fully protect against financial downturns. Despite the conservative nature of Islamic stocks, these might not be a superior investment during economic challenges. The authors highlight the potential for diversification among various assets, advising investors to consider a mix of conventional and Islamic stock indexes, Bitcoin and gold in their portfolios for balanced risk management.
On behalf of the editorial board, we extend our gratitude to you, our valued readers, for your unwavering support and your interest in our journal. We are excited to present a growing collection of practical papers on diverse topics related to modern investment strategies, sourced from both academic and industry experts.
This paper presents a unifying theoretical setting to introduce an autocorrelation model and derives an optimal portfolio based on a trend-following signal.
The authors put forward a stock-bond portfolio selection model which is based on CreditMetrics principles in which market and credit risks are naturally integrated.
Assessing the potential for asset diversification: an analysis of Brazilian stock indexes, Bitcoin, gold, crude oil and exchange rates
The authors investigate the Islamic and conventional stock indexes for Bitcoin, crude oil and gold in Brazil.