Historical Performance Graph Grouped by Stock Ranks
This graph shows the performance of the stocks grouped by ranks
and is a good test of the predictive power of a Ranking System.
At each rebalancing frequency (or only at the beginning) the stocks in the universe are ranked using the
Ranking System. The stocks are then divided into a number of 'buckets' according to their ranks,
in equal weighted positions. For example, if 10 buckets are used, then the best 'bucket will' contain
stocks that rank from 90-100, the next one with ranks from 80-90 and so on.
The historical performance is then calculated for each 'bucket'.
A good Ranking System will produce a graph that shows the lowest return for the 'bucket' with the lowest ranked stocks and increasingly higher performance for buckets of higher ranked stocks.
Here are two examples of these graphs:
Good Ranking System
This chart shows the results of a promising Ranking System that may have real predictive power.
The performance of each "bucket" is proportional to the Rank and the best bucket (80-100)
outperforms the worst (0-20) by about 50%.
Bad Ranking System
This chart shows a very poor Ranking System. The lowest ranked stocks, 0 to 20 percentile performed the worst, but the second lowest ranked 'bucket' of stocks actually performed the best. The other 'buckets' seemed to bounce up and down relative to each other in no clear pattern. This chart would indicate that a high ranking stock does not seem to predict a higher return.
