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The meaning of "negative" in a Variable Quattro Stagione strategy

Topic: Building a professional investment portfolio

Details: A specific question regarding adjusting the asset class weights in a diversified portfolio when an asset class has fallen in value

Summary: Any negative amount counts as a negative year and thus triggers an increase in weights

Nuance: It's still up to you how much, if at all to adjust the weights, since the system hasn't been scientifically optimized

This is my e-mail answer to a question from a reader in Hong Kong regarding when to adjust the asset class weights in a Quattro Stagione portfolio (that I talk about in this post among others that you can find here under Investments):

Regarding the VQS system, The Variable Quattro Stagione

I actually literally mean any negative amount for a market counts as time for adjusting the Quattro Stagione weights.

However, I haven't optimized the system statistically over time, markets, asset classes etc. for different thresholds. I'll leave that to you for your specific QS toppings. I do think "negative" is something most investors try to avoid, and that window dressing makes sure years typically end positive if at all possible. That's why "negative" is a kind of magical threshold.

That said, it's not inconceivable that +2%, -2%, -5% or some other amount would work even better as the cut-off point. Similarly, how much to adjust the weights hasn't been optimized either -- the Variable Quattro Stagione is more of a conceptual framework, and the best parameters will vary between regions, asset classes, time periods and so on anyway.

The reason the VQS should work better than fixed weights (i.e., less drawdowns or volatility for the same or better total return) is that market forces, crowd psychology etc. historically typically has produced a pattern of a handful of positive years followed by a couple of negative years. Actually, even without varying the weights you'll get some of the benefits from the "up much, down less" pattern, since you'll re-weight the losers upward to their default weight. Increasing the weights even more simply emphasizes that effect.

The pattern could be something like this in terms of years for stocks in one country: +6, -1, +4, -1, +7, -2, +5, -1, +9. Check a few asset classes yourself, e.g., gold, gov bonds, corporate inv grade bonds, junk bonds, US stocks, Chinese stocks, UK stocks...

That should give you a hint of the value of doubling up on an asset class after a few negative years, and reducing weights (possibly significantly) for classes that have just gone through more than 5 or 7 positive years in a row.

As an aside, right now, after 8 consecutive positive years (going on 9) for the western stock markets, I would keep the equity weight at a minimum, in particular if it's a country index.

However, the model actually states that you keep the default weight of 25%, and even increase it to 40% if this year ends below zero. My actual publicly listed net equity weight is just a couple per cent; 1-2% approximately (including my gold miners ETF exposure "GDX"). The reason I can't be more precise is that my gf Anna is managing a small part of my wealth and I have no clue what she's doing with it from day to day.

If you're new here, do check out my previous post where I listed all my investments and why I own them. Also don't forget to subscribe and read my book about investing.

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