The purpose of this blog is to compare the recommendations between an efficient frontier analysis and a tranche momentum analysis. To begin this comparison I started with approximately 125 ETFs that cover U.S. Equities, International Equities, Domestic and International Bonds, Commodities, and Precious Metals. Sixteen of the highest ranked ETFs using the tranche momentum screen were selected for the comparison.
Efficient Frontier Graph: The following Efficient Frontier graph is based on the assumption that the S&P 500 will grow at an annualized rate of 6% over the next few years. The screened ETFs identified by the tranche momentum screen (shown below) are projected to grow at 5.3% with a volatility of 11.4%. This is the yellow diamond identifier.
In contrast, the optimized portfolio (red dot) is projected to grow at a rate of 6.86% annually with a volatility of approximately 10.5%. The optimized ratio of return to volatility is higher or what we desire.
Efficient Frontier Graphs and Projections: Five years of data was used to construct the following graph. In the second screen shot the ETFs used for this analysis are identified and the percentages held in each are revealed. For those unfamiliar with efficient frontier graphs, the goal is to find securities that push the return/volatility ratio toward the northwest corner of the graph. Holding volatility below 15% is a desirable goal and both the optimized and tranche momentum portfolios do this.
Optimized vs. Momentum Recommendations: This is a rather large table and the essential information is in the first row (ETFs) and the bottom six rows. The current portfolio row comes directly from the tranche momentum recommendations and are right out of the Kipling Tranche 2.5.1 spreadsheet. In contrast, the optimal portfolio are the recommendations from the efficient frontier Hoadley add-in software.
The optimized or efficient frontier portfolio recommends SHY, QQQ, VWO, and FAN while the tranche momentum favors VNQ, REM, SLV, and FAN. FAN is the one common security that shows up in both lists with any sizable percentage.
Tranche Momentum Recommendations: Below are the recommendations from the tranche momentum model. Beginning with over 125 ETFs, here are the final 16 highest ranked securities. In this blog I did not take a final step of running a correlation coefficient analysis to further reduce the possible number of interesting ETFs.
For portfolios exceeding $500,000 I recommend increasing the maximum number of assets to four (4) or five (5) so as to increase diversification.