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.
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.
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.
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)
.
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!
On Fidelfolio, which historic data we can back test with? With my quick resting I can see it shows data from 2022 and backwards. Which might not be enough. We will require latest data.
As you have requested for few suggestions to to backtest, I would like to do the following (May not be suitable for this tool, but I would like to have your suggestions and take this discussion forward)
First filter will be the market cap. As large cap, mid cap, small cap - all will have different set of rules to screen good stocks.
return over 1 month, return over 3 months, 6 months, 1 year to screen momentum
asset turn over ratio to look further
compare average ROCE of last 3 years with the last year and current year (or quarter or latest quarter result)
Capitaline database. From 1999 to 2022. We shall be updating FY23 and FY24 data together. Since data for all companies is not out till September, we are waiting for the same. Also, we have data till FY23 on our internal system and can share result on the same on request.
I will create filters similar to what you have suggested, and share backtested results. However, you can yourself create rules on our backtester tool. You can use fundamental ratios from the financial statements including ROCE, ROE, DE, Profit & cash flow growth metrices, valuation ratios including PE, PB, PCFO etc. However, momentum and other technical ratios are not available on our platform.
You can create and backtest rules as you like, looking at average rolling returns, risk, sharpe, sortino, highest & lowest returns / maximum drawdown etc. We are also adding feature to look at fundamental performance of the investment rules - historical profit & cash-flow growth, PE expansion, ROCE, ROE trajectory etc.
Thank you Kislay. I think the tool require further work for making this a commercially viable product and eventually a SAAS based model. Including latest data, market cap and few important factors will be required.
It does have USP like graphs, return probability. Good one. Keep going. Really a good tool for sure.
We are a SEBI reg. rule-based fund management firm. Our fund management process involves combining multiple investment-rules to create each investment strategy. This tool was developed to create and backtest investment rules as part of our internal system.
Since we believe rule-based investing to be the future, and since most individual investors dont have a tool to backtest their investment-rules, we attempted to provide access to our internal backtester tool. Thus, we created a platform to allow individual investors to access the same. Hope it contributes to democractizing rule-based investing.
As we get more feedback / requests, we will add the features like you suggested.
