This thread is to discuss rule-based objective approach for long-term fundamental investing.
Rule-based equity investing uses predefined rules for stock selection, entry, exit, and position-sizing. This method eliminates emotional biases and fosters a disciplined investment process. We believe rule-based Investing is the future of investing. By constructing objective rules and backtesting them, we ensure a systematic, unbiased & error-free methodology.
In this thread we will discuss the most effective rules for long-term fundamental ‘‘investing’ (not trading) that have worked in the Indian markets over the last 25-30 years. But, first, let’s understand the evolution of rule based approach (read our full article on this in the CFA blog [ https://bit.ly/3Livaja ]
The evolution of rule-based investing has been remarkable, advancing from trading → Passive investing → semi-passive investing (factor) → mainstream active investing.
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Trading: Originating with quantitative models in the mid-20th century, early systems used technical indicators and moving averages. Later, it was extensively used by HFTs and short-term traders.
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Passive & Factor-Based Investing: Applied to index investing, ETFs etc, it reduces tracking error and increases cost-efficiency. Factor-based strategies use rules based on volatility, value, momentum, or quality, bridging active and passive investing.
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Mainstream Active ‘Investing’: Evolved from stock screens to comprehensive investment rules. While stock screens could only provide a filtered list of stocks, selecting final stocks, and other decisions like entry, exit, position sizing etc is not covered. Moreover, backtesting of stock screens is not possible. Complete investment rules tackle all these problems. Popular rules include: Joel Greenblatt’s Magic-Formula, Coffee-Can-Rule: (developed by our team at Ambit), FidelFolio-Rule (developed by FidelFolio’s ML engines)
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Best Practices with Rule-Based ‘Investing’:
- Align rules with fundamental economic principles
- Ensure data integrity and consistency
- Portfolio turnover to be considered per investment objectives
Our aim is to empower readers to create their own fundamental-ratios-based investment-rules. We hope to help DIY investors, research analysts and fund managers. On request, readers can access FidelFolio’s backtester tool for stock screens to backtest their own fundamental ratio-based rules.
Share your suggestions in the comments on the investment rules you’d like us to backtest. Let’s analyze their returns and fundamental characteristics together!
