The Value of Stop-Losses and Stop-Gains in Enhancing Risk-Adjusted Return
University of Arizona
January 5, 2014
Asset allocation strategies which utilize stop-loss and stop-gain rules may dramatically decrease risk and even increase long-term return relative to passive investing. I introduce an asset allocation strategy which shifts portfolio weights based on simplistic stop rules. The two-asset (S&P mutual fund and bond mutual fund) strategy tested from 1990-2012 produces an annual geometric return of 8.45% vs. 7.50% for the underlying S&P 500 Index fund, with 50% less volatility (9.41% annualized standard deviation of return vs. 18.76% for the S&P index fund). The strategy’s strong results are robust to changes in the user-specified parameters, such as the level and number of stop placements. Hence, further development and refinement of asset allocation and trading strategies which incorporate stop-loss and stop-gain rules may be a valuable area of future research.
Number of Pages in PDF File: 19
Keywords: stop-loss, stop-gain, stop loss, stop gain, return, risk, information ratio, asset allocation, alpha, portfolio management, investing, trading, trading rules, trading strategies, mutual funds, active management, passive investing
JEL Classification: G1, G10, G11, G12, C00
Date posted: June 26, 2013 ; Last revised: January 6, 2014
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