How to beat the status quo

S2N spotlight

It has been a while since I have spent so much time on portfolio construction. The last few days I have been working diligently with a colleague on a white paper, going into it in more detail. However, for now, I thought I would share some of my discoveries.

It all starts with a typical 60/40 stock/bond portfolio.

Beating method 1

Beat the crap out of the portfolio until it outperforms.

Beating method 1.1

Instead of working with just 1 investment for stocks and 1 for bonds, I introduce some variety with their own characteristics to provide some diversification benefits. See below a few ETFs with their own unique characteristics.

Stocks

"SPY",  Broad US market / large-cap.

 "QQQ", Tech/Growth tilt.

  "VTI", Total US market.

Bonds

  "BND", Broad bond market.

  "AGG",  Aggregate bond market.

  "TIP", Inflation Protection bonds.

  "LQD",  Investment-grade corporate bonds.

I am super pumped with the outcome of this outperformance, but as you can see with the weights in each year, they are very stable. The reason is mainly due to the number of constraints I had built into the optimizer to keep it sensible and on the straight and narrow. No secrets revealed yet, but you can see that a bit of extra diversificaiton has clear benefits.

Beating method two

I introduced some more creative thinking and got some more outperformance with basically the same amount of risk. You can see the creativity expressed in the more dynamic weightings in the portfolio.

S2N observations

Sam Altman's latest blog post shared some of his current thoughts on AI's impact on society; they are quite scary. He made one statement that is mind-blowing. He says that by 2035 anyone should be able to access the intellectual capacity equivalent of everyone living today. Something like the brainpower of 7 billion people at your disposal—WOWZA!! I have quite strong thoughts on this subject, but not for today.

Inflation came out higher than expected. 3% is a problem I have been saying for some time that inflation isn't going away anytime soon. In fact, it looks set to grow from here, and tarriffs won't help.

The monthly number was bad; if you annualise it, inflation is sitting at 6%. That was for shock effect. I try not to annualise monthly numbers; it is way to unstable to play that game.

Inflation expectations are climbing; the 5-year breakeven rate is 2.66%, which is what inflation is expected to be at 5-years from now.

The monthly deficit numbers were released yesterday, another $128 billion shortfall. DOGE is going to have to work really hard to stay on top of these gaps. You have to admire Musk's dedication to hard work; rumour has it that he is sleeping in his office at the White House. My guess is that the minute Donald leaves the Oval Office, Musk walks in for a little bit of role play. Then again, Trump never sleeps, hmmmmm.

Corporate bond spreads are trading extremely low (expensive). This is nuts in the current environment.

The United States has a $66B 10 Year Bond from February 2015 coming due today. It had a 2.00% fixed coupon. It is going to be replaced with another $66B 10 Year Bond, but this time, with a 4.55% fixed coupon. This one single rollover will add an extra $1.67B per year to the national debt for the next 10 years.

Dark pools are now trading more off exchange than what is being traded on exchange. What did I miss?

S2N screener alerts

18 days in a row, META stock has been rising for another record. This happens to be the longest up streak for any of the magnificent 7 stocks listed on the US markets.

Coffee got more expensive once again with a 3-sigma up move taking us to new all-time highs.

Performance review

For those who are new to the letter, the shading is Z-Score adjusted so that only moves bigger than usual for the symbol are highlighted.

Chart gallery

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