Despite the decline in the portfolio, it is the 12th quarter the strategy has beat the S&P 500 out of 13 quarters since inception. During September, FatAlpha dropped -2.39% vs -3.01% for the market. Over the last 39 months, the S&P has declined during 12 of these. The strategy has outperformed in 10 of those months with an average decline of -0.81% vs -2.52% for the market. Another testimony to the value approach employed. Year to date return is at -4.02% vs –5.64% for the benchmark.
Several changes going forward as you will notice in this newsletter. The first and most important is the launch of a second FatAlpha strategy. As I mentioned in previous letters, I’ve been doing a lot of quantitative work this year. Part of this was a fresh look at the models used and testing of additional variables. The dataset used was also slightly different versus my previous set. The results confirmed my previous ones, but a significant new outcome was a new short model.
As you know, I have already used shorts in the FatAlpha strategy. These ideas were generated from looking at decile 10 of the value model (decile 1 being the cheapest stocks). The weakness with shorting overvalued stocks is that during strong bull markets they tend to rise and risk wiping out returns from the long side (eg. 1999). Hence, the FatAlpha approach was to keep a net long exposure during the bull markets and to increase the number of shorts during market weakness.
The new short model does not have this weakness. This is because factors which I consider “red flags” are part of the model and valuation is a smaller component. These new factors all backtest well individually, and combined work even better as they look at the company each from a different view point.
Hence the launch of FatAlpha Market Neutral. This portfolio uses the value model for long trades, while the new short model is used for shorts. The strategy was launched during September, and the initial results are very satisfactory as the portfolio gained 2.34% versus -1.93% for the S&P 500.
The ‘old’ FatAlpha strategy will hence forth be called FatAlpha Active. Both are long-short strategies however the main difference is the FA Market Neutral will always be long-short with a ZERO net exposure while FA Active will have a net exposure of 0-100% based on my own views of the strength of the market. Hence FA Active will be more volatile with a higher expected return, while FA Market Neutral will have a lower return but no correlation to the market (backtested calculation of daily beta over 18-years was 0). Both have a gross exposure of 100%.
A second change is that I will no longer be posting the trades I made during the current month. I will continue to post trades with my typical note but with a delay. It has come to my attention that institutional managers who receive my letter may be taking advantage of all the free information I provide. I am quite upset about this, and it is an unfortunate setup I have to take to protect my work. Having said that individual investors feel free to contact me to discuss stocks or find out what I’m currently buying/selling. Institutional readers can also contact me but only if they are looking to do business. “No more [free] soup for you” (Non-Seinfeld fans will need to see: https://www.youtube.com/watch?v=U49IjF4XyQg )
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