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Using momentum to allocate Equities and Bonds
In this case study we have built a portfolio comprising four ETFs, providing exposure to the FTSE 100, S&P 500, Euro Stoxx 50 large cap equity indices and a position in UK Gilts (0 to 5yrs).
The idea behind this model is to use a z-scored momentum strategy to determine the weights on a monthly basis, as there will be periods of time when all three of the equity markets will be in a downturn it makes sense to include the Gilts exposure as a risk- off mechanism to avoid any excessive losses.
The portfolio weights are constructed using a mean-variance optimizer with the additional constraints that the weights of all three equity ETFs are constrained with a minimum weight of 2% and a maximum weight of 40% unlike the Gilts ETF which is unconstrained.
For such a simple model the results are family encouraging, post trading costs the annualized return since 1st Aug 2015 is 5.3% with an average volatility of 6.3%. Of course there are a number of changes one can make to this model (in this case we have used a straight forward z-scored momentum signal with a one year averaging window with a half-life of 1 year over) but does lay the foundations from what to build on.
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