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Investments – Security Analysis Project

Stock-Trak Project

Requires weekly trades, explanations, and a final report (22% of total grade).

Two portfolios are tracked for each student. One portfolio is passively managed after the first week, and the second portfolio is actively managed given weekly requirements. The portfolio has a total return objective.

Week 1 (trades from Feb 8 through Feb 12)

Students purchase (broad index) ETFs to construct a portfolio that is consistent with the following asset allocation guideline (at market value).   For the fixed income portion of the portfolio, students use a combination of Treasury Bonds and fixed income ETFs (or ETNs).   Limit the amount invested in only one ETF or ETN to $100,000. Commodities can be purchased in the cash market (corn, wheat, gold, silver, and major currencies) or using an ETF; however, the real estate exposure must be obtained using an ETF on a broad real estate index. The passive and active portfolios should be established with approximately the same holdings and weights (i.e., same trades and same returns during the first week). I suggest placing these initial orders when the market is open (i.e., after 3 pm). The passive portfolio should not need to be adjusted during the remainder of the term.

Asset ClassTargetMinimumMaximum
U.S. Large Cap. Stocks40%30%75%
U.S. Small Cap. Stocks10%0%25%
Non-U.S. Stocks20%0%25%
Fixed Income20%15%60%
Real Estate3%0%10%
Commodities including currencies3%0%10%
Cash and equivalents4%0%15%

Week 2 (trades from Feb 15 through Feb 19)

Stops, shorting and buying on margin

  1. For the active portfolio, establish at least three stop loss orders for the ETFs in the existing portfolio (e.g., set the stop price at about 10% or more below the current price).
  2. Students establish a margin account by borrowing funds (i.e., in Stock-Trak, the margin loan occurs automatically when more securities are purchased than the cash that is available and/or by short selling). That is,

(a) buy additional shares of at least three ETFs in the existing portfolio (purchased in the first week) and

(b) short sell a health care sector ETF. The sector ETF will reduce your exposure to health care.

  1. Target the active portfolio value to be at least $1,400,000.

Week 3 (trades from Feb 22 through Feb 26)

Rebalancing and buying mutual funds, levered ETF and an ultra-short ETF

  1. Replace (i.e., sell) 20% of the large cap ETFs by purchasing an index mutual fund, and sell 20% of the small cap ETF by buying an actively managed small cap mutual fund(s).
  2. Increase the systematic risk of U.S. securities by selling regular broad index ETF and purchasing levered ETF like those from ProShares (e.g., Ultra S&P 500 with ticker of SSO).
  3. Reduce exposure to international equities by purchasing an Ultra-Short ETF like those from ProShares (e.g., Ultrashort MSCI Japan with ticker of EWV).

Week 4 (trades from March 1 through March 5)

Based on expectations of commodity prices, currencies, and interest rates, establish futures positions in commodity, currency, and bond (avoid purchasing a contract that is expiring in the current month).

  1. Use futures contracts to increase (or decrease) the percent of commodities and non-U.S. currencies in the active portfolio by at least 3% of the total value of the portfolio (e.g., if the current portfolio value is $1,500,000, then increase holding of a commodity by an additional $45,000 based on the notional, or contract, value of the futures contract).
  2. Increase (or decrease) the interest rate risk of the active portfolio by using a bond index futures by at least $100,000 in notional value. That is, buy T-bond futures to increase interest rate risk and sell to reduce interest rate risk.

Week 5 (trades from March 8 through March 12)

Futures transactions in equity market and adjustments for sector weightings (avoid purchasing a contract that is expiring in the current month)

  1. Based on expectations for the equity market, increase (or decrease) the systematic risk of the portfolio by using index futures (by buying or selling equity index futures). If the portfolio does not have sufficient cash for the margin required by the futures contract, then shares of ETFs will need to be sold.
  1. Adjusting sector weighting, leveraging and buying short positions. Establish sector over-weighting and under-weightings using ETFs or mutual funds in the portfolio for at least two additional sectors. Students can reverse the health care position from prior transaction.

Week 6 (trades from March 15 through March 19)

Option returns versus stock returns

(Avoid purchasing a contract that is expiring in March)

  1. Purchase three individual stocks by selling the appropriate ETF(s).
  2. For each stock, purchase an out-of-the-money call.
  3. For each stock, purchase an in-the-money call.

This is not an option strategy; however, I will want comments in the final report on the impact of buying an option compared to buying the individual stock (keep track of the returns on the stock (include dividends) and call options). See D2L announcement note for option symbol used in Stock-Trak.

Week 7 Spring Break

No required trades (from March 22 through March 26), but can trade to rebalance

Week 8 (trades from March 29 through April 2)

Basic Option Strategies  

(see D2L home for an announcement related to option symbols)

  1. Purchase two additional individual stocks (at least 100 shares) by selling the appropriate ETF(s). For each stock, purchase a put option to establish a protective put position.
  2. Purchase two additional individual stocks (at least 100 shares) by selling the appropriate ETF(s). For each stock, write a call option to establish a covered call position.
  3. Purchase a put option for one of the ETFs to establish a protective put position.
  4. Sell a call option for one of the ETFs to establish a covered call position.

Week 9 (trades from April 5 through April 9)

Advanced Option Strategies

  1. Establish a long straddle and a short straddle for two different stocks that are not currently in the portfolio. A long straddle requires the simultaneous purchase of a call and put for the same strike price, and a short straddle requires simultaneous writing of a call and put for the same strike price.
  2. For an individual stock not currently owned, create a Bull (or Bear) Money Spread (go to trade options − spreads and buy a call and write a call, where the call purchased has a lower strike price than the call that is sold).
  3. Purchase 3 individual stocks (that are new to the portfolio).  For each of the 3 stocks, create a collarA collar is basically a protective put plus a short call option.  Alternatively, a collar can be thought of as a covered call with downside protection. For each of the new stocks, buy an out-of-the-money put and an out-of-the money call for the same expiration month.  For example, immediately after purchasing a stock for $100, go to trade option and then to combo and buy a put option with a strike price of $95, and write a call option for $105.

Week 10 (trades from April 12 through April 16)

Trade at least ten individual stocks, of which at least two are from a foreign exchange and two additional securities are ADRS trading on a U.S. exchange; otherwise, there are no restrictions beyond Stock-Trak’s margin loans (trade as much as desired, but save enough transactions to close derivative positions and short positions in Week 12).

Week 11 (trades from April 19 through April 23)

After the in-class presentations, students are required to:

  • Buy 3 and short sell 2 of the stocks that were presented on Tuesday, and
  • Buy 3 and short sel1 2 of the stocks that were presented on Thursday.

Begin to close derivative positions (especially those with low volume).

Week 12 (trades from April 26 through April 30)

Rebalance the portfolio to be within the asset allocation guidelines after closing all derivative positions and short positions (volume may be an issue for closing some of these positions—try several times during the week for low volume issues).

Every Week

On Tuesday of each week, each student is required to turn in a summary and explanation of the trading activity in the active portfolio for the prior week (1 or 2 brief paragraphs). The top 5 portfolios based on total portfolio value will receive 5 bonus points, and the bottom five will lose 5 points (this is to prevent excessive risk taking).

The Weekly Stock-Trak summaries are turned into the dropbox in D2L as a word file and must contain the student’s name and indicate the report week (minus 5 points name or report week, if missing). Each student summary requires (no image files or print screens):

  • an explanation of trades made,
  • a comparison of the returns of the active portfolio to the passive portfolio,
  • completion of the statement: “This week, the most important insight gained (or technique learned) was . . . .” , and
  • proper citation of sources used in gathering the information used in the trade decisions.

Stock-Trak Presentation

A two to three minute PowerPoint presentation is required (assigned for either day 25 or 26, which is either May 4 or May 6). The presentation is due to a D2L dropbox on the presentation day and will summarize each student’s trading over the 12 weeks with slides that describe (or outline) the following:

  • Worst trade
  • Best trade
  • Most important insight gained from Stock-Trak

Final Stock-Trak Report

The final Stock-Trak report will include a discussion and analysis of the fund’s performance by comparing the active portfolio to the passive portfolio (and/or a major index). A summary of the individual stock trades and their performance is required. Students with portfolios with open positions in a derivative security will not be eligible for the bonus points.

Students with portfolios with open positions in a derivative security will not be eligible for the bonus points, and will have 5 points deducted from their score.

Final Stock-Trak Report: The report is required to be in a research paper format, which is organized using the following Template/outline and includes a discussion and analysis of each of the following:

  1. A comparison of daily returns of the active portfolio to the passive portfolio over the trading period (downloads daily portfolio values from Stock-Trak to an Excel spreadsheet, remove weekends, calculated daily returns).
    • Calculate and compare arithmetic and geometric means (daily and annualized).
    • Calculate and compare volatility measures; i.e., standard deviation (daily and annualized), range, coefficient of variation.
    • Compare other characteristics of the return series (i.e., skewness and kurtosis).
    • Calculate and discuss the correlation between the active and passive portfolio (does the correlation seem reasonable, given the trading in active portfolio?).
    • Regression of Active (y-axis variable) vs. Passive portfolio (x-axis variable) returns.
      • Intercept: What is the intercept’s value and is the intercept significant at the 5% level? Note: that the intercept is similar to the Jensen’s alpha.
      • What is the value of the beta coefficient and its interpretation?
    • Calculate and compare the HPR over the trading period for the active and passive portfolios to the S&P 500. Does the relationship seem reasonable given the risk associated with each portfolio/index?
    • Are markets efficient, nearly efficient or inefficient? (justify the response based on your trading)
  2. A comparison of the holding period return of the three stocks that were purchased relative to the three out-of-the money call options and the three in-the-money options on the same stocks.
    • Total investments in each stock, out-of-the money call, in-the-money call (include margin)
    • Total return on stock (include dividend if one was paid) and each call option
    • Compare the HPR on each stock and the corresponding options
    • Conclusions from options trades
  3. Examples of impact of risk and return from the following trades:
    • Protective puts
    • Covered calls
    • Other option strategies
    • Use of futures contracts
  4. What were the most important insights gained from the Stock-Trak simulation?
    1. From your trading strategies (required and/or otherwise)
    2. Market trends and conditions during the 12 weeks
    3. Overall
  5. Given the rules and quirks of Stock-Trak, how can the classroom experience be enhanced?

Appendices should include:

  • Data used in Excel spreadsheet (include arithmetic and geometric returns, daily means and annualized means and standard deviations)
  • Chart of daily portfolio values of active versus passive portfolios
  • Chart of daily returns of active versus passive portfolios
  • Descriptive statistics of the daily returns
  • Regression output of daily returns of active versus passive portfolios

Click Here for the full course outline and how this project fits in

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