IskraIndex Model Portfolios: Creation Process Outline
The IskraIndex approach to model portfolio construction is based on Modern Portfolio Theory (MPT), adapted to account for practical market realities and risk management.
The Power of Index Investing
By investing in an index, you gain broad exposure to an entire asset class. This minimizes the specific risk of individual companies (such as bankruptcy or corporate scandals), limiting your exposure to just the specific weight of that stock within the index.Asset classes represent qualitatively similar groups of financial instruments:
- Equities (growth and income through shares)
- Bonds (fixed-income instruments)
- Alternative investments (commodities, real estate, cryptocurrencies)
For more precise diversification, these groups are further divided by geography into Developed Markets and Emerging Markets.
Normal Distribution & Risk Management
The index approach mitigates idiosyncratic emitter risks. Consequently, analyzing the probability distribution of portfolio returns becomes much simpler. It can effectively rely on the classical Gaussian (normal) distribution, making risk forecasting more transparent and mathematically sound.
The Markowitz Efficient Frontier
For any given set of Exchange-Traded Funds (ETFs), there is a unique combination that delivers the maximum return for a specific level of risk. In "Return / Risk" coordinates, the collection of these optimal portfolios forms the efficient frontier.
As the chart below illustrates, adding higher-yield, higher-risk asset classes shifts the curve up and to the left. This allows you to build a more efficient portfolio compared to strategies limited strictly to conservative instruments.
The IskraIndex approach determines the most suitable model portfolios for conservative, balanced, and aggressive risk levels by calculating and regularly updating the efficient frontier, subject to a specific set of risk-management constraints.
How the IskraIndex Portfolio Efficient Frontier is Formed
- Investment Universe Setup: We construct an investment universe comprising the most liquid asset class ETFs available on the New York (NYSE/NASDAQ) and London Stock Exchanges.
- Asset Class Analysis: We determine the expected probabilistic characteristics of each asset class based on three key parameters: historical return distribution, the long-term cost of risk, and current monetary conditions (risk-free rates).
- Trend Assessment & Return Adjustment: By evaluating the performance of each asset class, we determine its position relative to its long-term trend and the extent of its deviation from expected probabilistic characteristics.
At this stage, the expected return for each asset class is adjusted upward or downward. This shifts the portfolio construction process from a static, long-term optimization to a dynamic, shorter-term horizon, making the IskraIndex approach highly adaptive to changing market conditions.
- Portfolio Optimization: Portfolio optimization across asset classes is performed using these adjusted expected returns and historical risks. The result is a unique set of portfolios that form the efficient frontier for each specific product line (Deposit+ or Idea). This optimization is updated monthly.
- Dynamic Management & Rebalancing: Over time, the efficient frontier shifts due to changes in the asset correlation matrix, monetary conditions (risk-free rates), and the leading or lagging dynamics of individual asset classes relative to their trends.
We recommend rebalancing the portfolio at least once a month to realign it with current optimal conditions. Regular portfolio updates are also essential to account for changes in an investor's personal circumstances, risk profile, or the emergence of new investable asset classes.
Furthermore, as a core component of risk management, IskraIndex’s maximum drawdown control may trigger a swift portfolio reallocation toward defensive assets during periods of market stress.
How IskraIndex Delivers Model Portfolios
IskraIndex subscribers can access their model portfolios directly through their Personal Account. Additionally, IskraIndex automatically delivers a detailed PDF report via email whenever a portfolio is updated.
