A Tale of Two US Stock Markets, Both Relatively Pessimistic

Our Chicago Quantum Net Score quantitative stock market analysis is most sensitive to expectations on future US equity returns and less sensitive to risk-free returns for our investors. The model searches for optimal portfolios that minimize the risk, net of expected return, for a set of equally weighted US common stocks.

A higher expectation of US stock market capital appreciation drives greater risk-taking in the optimal long portfolio. A ‘risk-on’ long portfolio has fewer, riskier stocks than a ‘risk-off’ portfolio.

As an example, in this weekend’s run the risk-on portfolio (9% capital appreciation & 1.57% dividend yield) chose five stocks while the risk-off portfolio (7% & 1.57%) chose eighty-five stocks.

If we watch how the market trades this morning (are those five stocks surging, or is the market flat), we can better understand market expectations.

This week, the ‘tipping point’ where risk-on and risk-off portfolios occur is between 7% and 9% capital appreciation, plus 1.57% dividend yield.

Net-net: We believe that the market action of the current day gives an indication of market expectations (by watching what is trading higher and lower), and that loading those market expectations into the model helps provide a range of trades that will do better than a diversified portfolio on a risk-adjusted basis moving forward. The insight is the daily testing of yesterday’s range…to fine tune this parameter.