Quantitative Portfolio Strategy
Building a Resilient Investment Approach
Investing isn't just about picking great stocks—it's about structuring a portfolio that can withstand market turbulence. While equities form the core of my investments, I diversify across multiple asset classes to ensure resilience. No matter how strong a stock strategy is, market crashes are inevitable. When that happens, it pays to hold assets that are uncorrelated or even negatively correlated with equities.
For the private investor managing their own portfolio, I believe this kind of diversification is crucial based on my personal experience and approach. A well-structured portfolio strategy allows an investor to stay in the game during downturns and take advantage of opportunities when markets recover.
My Portfolio Structure
Rainy Day Fund: Six months of family expenses in cash, held in savings accounts. This ensures I don't have to sell investments in a downturn, avoiding forced liquidations at unfavorable prices. Cash acts as an immediate buffer against personal financial shocks such as job loss, medical emergencies, or unforeseen expenses.
Defensive Assets: Cash equivalents (short-term bonds), gold, and a limited use of options as a temporary hedge. These assets help protect against inflation and systemic market stress. Gold, for instance, has historically been a safe haven during economic turmoil, serving as a hedge against currency devaluation and geopolitical instability.
Offensive Assets: Stocks and funds focused on maximizing long-term returns. While equities carry higher volatility, they have consistently outperformed other asset classes over long periods. My focus is on quantitative stock selection that balances high compound annual growth rates (CAGR) with risk management principles.
Why Not the Traditional 60/40 Portfolio?
The classic 60% equities / 40% bonds allocation is outdated. After four decades of declining interest rates, bonds no longer provide the counterbalance they once did. We are now in a macro environment where long-term bonds may not hedge against equity downturns effectively. With rising interest rates and persistent inflation, traditional bond-heavy portfolios may struggle to deliver adequate returns.
In my view, relying too heavily on bonds for diversification carries risks that are often underestimated, which is why I personally prefer incorporating a mix of cash, alternative assets, and selective equities. While bonds once acted as a stabilizer, they now carry risks that are often underestimated. Instead, incorporating a mix of cash, alternative assets, and selective equities – from my micro-cap and small-cap quant model - provides a more flexible and adaptive approach.
The Barbell Strategy: Balancing Risk and Stability
I follow Lyn Alden's barbell approach, where defensive assets act as a counterweight to an aggressive equity strategy. Lyn Alden, an investment analyst and macro expert, is known for her data-driven approach to macroeconomics and investment strategy. Her expertise lies in identifying long-term financial trends and creating robust investment models that withstand various economic cycles. As an electrical engineer she adds an analytical engineering mindset to her research, which I obviously like a lot. More about her work can be found at Lyn Alden's website.
The barbell strategy involves placing capital at both ends of the risk spectrum—high-quality defensive assets on one side and high-growth, high-return equities on the other. This approach avoids overexposure to the middle ground, such as long-duration bonds, which may not provide sufficient returns or protection in today's economic climate.
Today, my defensive allocation includes gold as a store of value, particularly in response to global inflation and aggressive monetary policies. Central banks worldwide have engaged in unprecedented levels of quantitative easing, increasing the supply of fiat currency. Gold, in contrast, maintains intrinsic value and has served as a reliable hedge against fiat devaluation over centuries.
My Offensive Strategy: Maximizing CAGR with Controlled Downside
My investment process is straightforward:
Alpha Focus: Seeking above-market returns without leverage. While leverage can amplify returns, it also significantly increases risk, often leading to severe drawdowns during market downturns.
Value-Oriented: Margin of safety as a core principle. By focusing on undervalued assets, I aim to minimize downside risk while maximizing potential upside.
Data-Driven: Financial models guide stock selection, using quant stock screeners, rankings, and clear buy/sell rules. This quantitative approach reduces emotional decision-making and ensures consistency in portfolio management.
Global Perspective: As an international investor, I believe a broad geographic approach increases my options to find alpha while reducing market risk. Many investors suffer from home bias, limiting their exposure to local opportunities. Expanding my scope allows for greater diversification and better risk-adjusted returns.
Minimal Subjectivity: Qualitative analysis is limited to a final review of model-selected stocks before purchase. While industry trends and company narratives matter, they should not override solid financial data and valuation metrics.
For the self-directed investor, maintaining a strict process is key to avoiding common pitfalls. Many retail investors fall into behavioral traps such as herd mentality, fear of missing out (FOMO), and panic selling. Having a well-defined system helps counteract these tendencies and ensures disciplined execution when building a high-alpha stock portfolio.
The defense-offense ratio depends on personal risk appetite and long-term plans. For me, its currently about 25% - 75%. I am 46 and I intend to compound my gains for at least 20 years (hopefully!). Even then I probably continue with the funds I don't need and I hope my children get the vibe too. Modeling alpha is too much fun!
Why Process Matters More Than Predictions
Investing without a clear portfolio strategy and process is a recipe for failure. The financial media often focuses on short-term market predictions, but trying to time the market is a losing game for most investors. Instead, a structured, systematic approach to investing ensures discipline and long-term success.
A solid investment process allows me to navigate market cycles with confidence. It reduces emotional biases, enables consistent decision-making, and ensures that my portfolio aligns with long-term objectives.
In my experience, smart investing isn't about reacting to market noise but rather about designing a resilient portfolio that thrives in all conditions. Engineering a strategy with clear rules, diversification, and risk management is the best way to stay ahead of the game.
The Alpha Engineer --- Investing with a quantitative edge
Disclaimer: The Alpha Engineer shares insights from sources I believe are reliable, but I can't guarantee their accuracy---data's only as good as its inputs! This content (whether on Substack, via email newsletters, X, or elsewhere) is for informational and educational purposes only---it's not personalized investment advice. I'm not a registered investment advisor, just an engineer crunching numbers for alpha. My opinions are my own and may shift without notice. Investing involves risks, including the chance of losing money. Past performance, whether from back-testing or historical data, does not guarantee future results---outcomes can vary. So, please consult your financial advisor to see if any strategy fits your situation. Full disclosure: I may own positions in the securities I mention, as I actively manage my own portfolio based on these strategies.