BACKGROUND
Your family friend, Louise Winthorpe III, brags about her investment portfolio but is vague about her strategy. She finally told you her strategy over winter break:
1. She invests in only the Vanguard 500 Index Fund (VFINX) and one-month Treasuries (RF in Ken Frenchs benchmark factors data)
2. She knows that she cannot time market tops and bottoms but thinks the following is a good approximation of market tops and bottoms:
a. After two consecutive monthly increases in the S&P 500 Index (^GSPC), she moves her entire portfolio to VFINX
b. After two consecutive monthly decreases in the S&P 500 Index (^GSPC), she moves her entire portfolio to RF
c. She invests $500 in the portfolio at the beginning of every month
Louise says she has followed this strategy since the mid-1980s and is a millionaire.
tasks A data-driven explanation of why her investment strategy does not work well, supported by what you learned in this class
a. Figures may be the quickest and easiest way to convince Louise. For example:
i. Plot portfolio values for her strategy and a nave strategy
ii. Plot rolling portfolio volatilities for her strategy and a nave strategy
iii. Plot rolling Sharpe ratios for her strategy and a nave strategy
iv. This list is not exhaustive
b. Tables may convince her, too. For example:
i. How much more money would Louise have today with a nave strategy?
ii. How do the five best and worst months compare between her strategy and a nave strategy?
iii. This list is not exhaustive
