Equity Valuation and Portfolio Management

PORTFOLIO CONSTRUCTION

In the second phase of the investment process, the quantitative investor uses the stock selection model to buy stocks. It is in this phase that the quantitative investor puts the model into production. Returning to our golfer analogy, this is when he travels to the course to play a round of golf.

During the portfolio construction phase, the model is ready to create a daily portfolio. This phase consists of three main steps:

EXHIBIT 1.15 Three Main Steps of the Portfolio Construction Phase

• Step 1: Data collection. Data are collected on a nightly basis, making sure the data are correct and do not contain any errors.
• Step 2: Create security weights. New, updated nightly, data are used to both select the stocks that should be purchased for the portfolio as well as how large its position should be.
• Step 3: Trade. The stock selection model that has incorporated the most current information is used for trading.

Data Collection

As Exhibit 1.16 shows, data come from many different sources, such as company fundamental, pricing, economic, and other data (specialized data sources). All of these data are updated nightly so it is important to have robust systems and processes established to handle large amounts of data, clean the data (check for errors), and process it in a timely fashion. The quantitative investor seeks to have everything ready to trade at the market ...