- 1Start with the Strong Buy tier (composite score 75+) as your primary selection pool
- 2Hold 15-25 stocks for optimal diversification without diluting factor exposure
- 3Cap any single sector at 30-35% to prevent concentration risk
- 4Equal-weight positions outperform cap-weighted in factor portfolios
- 5Rebalance monthly to capture factor signal decay and rating changes
- 6Always cross-check individual factor scores before adding a position
#Step 1: Define Your Selection Pool
The foundation of a factor-based portfolio is stock selection. Our composite score does the heavy lifting — it ranks approximately 3,000 stocks from 0 to 100 across six academically validated factors.
Start with Strong Buy (5-Star) Stocks
| Rating | Composite Score | Role in Portfolio |
|---|---|---|
| ★★★★★ Strong Buy | 75+ | Primary holdings — the core of your portfolio |
| ★★★★☆ Buy | 65–74 | Secondary candidates — use to fill sector gaps |
| ★★★☆☆ Hold | 50–64 | Existing positions only — don't initiate new buys |
| ★★☆☆☆ Reduce | 40–49 | Sell candidates — factor profile is deteriorating |
| ★☆☆☆☆ Avoid | Below 40 | Do not own — multiple factors are flashing red |
At any given time, roughly 15-20% of our universe earns a Strong Buy rating. That gives you a pool of 400-600 stocks to choose from — far more than you need.
Filter with Individual Factor Scores
Not all 5-star stocks are equal. Before adding a position, check the individual factor scores:
- Red flag: Any single factor below 20 deserves investigation. A stock with a composite of 78 but a profitability score of 12 may be riding momentum alone.
- Green flag: Stocks scoring above 60 on at least 4 of 6 factors have the most balanced, durable profiles.
#Step 2: Decide How Many Stocks to Hold
The number of holdings determines the balance between concentration (higher conviction, more volatility) and diversification (smoother ride, diluted alpha).
| Holdings | Diversification | Factor Exposure | Practical Fit |
|---|---|---|---|
| 5-10 | Low | Very concentrated | Too much single-stock risk |
| 15-25 | Moderate | Strong factor tilt | Optimal for most investors |
| 30-50 | High | Diluted factor tilt | Starts to resemble an index |
| 50+ | Very high | Minimal edge over index | Better off buying an ETF |
Why 15-25 Is the Sweet Spot
Academic research (Statman, 1987; Evans & Archer, 1968) shows that diversification benefits diminish sharply after 15-20 holdings. At 20 stocks, you've eliminated roughly 95% of idiosyncratic (stock-specific) risk while preserving meaningful factor exposure.
Our backtest uses 20 stocks — enough diversification to sleep at night, concentrated enough to outperform.
#Step 3: Allocate Across Sectors
Factor scores are calculated within each sector, so your Strong Buy list will naturally span multiple sectors. But you still need guardrails.
Sector Allocation Rules
| Rule | Guideline | Rationale |
|---|---|---|
| Maximum single sector | 30-35% of portfolio | Prevents sector blow-ups |
| Minimum sectors represented | 5+ of 11 GICS sectors | Ensures broad exposure |
| No sector at 0% unless forced | Try to have at least 1 stock per major sector | Reduces gap risk |
Handling Sector Imbalances
If one sector dominates your Strong Buy list (e.g., 40% of 5-star stocks are in Technology), use these tiebreakers:
- 1Within the overweight sector: Pick only the top 5-6 ranked stocks, not all of them
- 2For underweight sectors: Dip into the Buy tier (4-star, score 65-74) to fill gaps
- 3Never force it: If a sector has zero stocks above 65, don't add a mediocre stock just for diversification
#Step 4: Size Your Positions
Equal-Weight vs. Conviction-Weight
| Approach | How It Works | Pros | Cons |
|---|---|---|---|
| Equal-weight | Every stock gets the same allocation (e.g., 5% each in a 20-stock portfolio) | Simple, disciplined, avoids overconcentration | Treats a 95-score stock the same as a 76-score stock |
| Conviction-weight | Higher-scoring stocks get larger positions | Tilts toward strongest signals | Requires more judgment; harder to rebalance |
| Hybrid | Equal-weight within tiers (e.g., 6% for top 10, 4% for next 10) | Balances simplicity with signal strength | Slightly more complex |
Our recommendation: Start with equal-weight. Research from DeMiguel, Garlappi & Uppal (2009) shows that equal-weight portfolios outperform more complex weighting schemes in most practical settings — especially when transaction costs are included.
Position Size Guidelines
| Portfolio Size | Stocks | Position Size | Max Single Position |
|---|---|---|---|
| $25,000 | 15 | ~$1,667 each | $2,500 (10%) |
| $50,000 | 20 | ~$2,500 each | $3,750 (7.5%) |
| $100,000 | 20-25 | ~$4,000-5,000 each | $6,000 (6%) |
| $250,000+ | 25 | ~$10,000 each | $15,000 (6%) |
For smaller accounts (under $25,000), consider holding 10-15 stocks to keep position sizes meaningful and minimize commission drag.
#Step 5: When to Add New Positions
Don't build the entire portfolio on day one. Phase in over 2-4 weeks to reduce timing risk.
New Portfolio Checklist
- 1Week 1: Buy your top 10 highest-conviction Strong Buy stocks
- 2Week 2: Add 5-8 more positions, prioritizing sector diversification
- 3Week 3-4: Fill remaining slots, review the full portfolio for balance
- 4Ongoing: When cash becomes available, add the highest-ranked Strong Buy stock in the most underweight sector
Adding to an Existing Portfolio
When you identify a new Strong Buy stock:
- Check if the sector is already at its cap (30-35%)
- Check if adding this stock improves the portfolio's average composite score
- If both pass, fund the position by trimming or selling your lowest-rated holding
#Common Mistakes to Avoid
| Mistake | Why It Hurts | What to Do Instead |
|---|---|---|
| Holding 50+ stocks | Dilutes factor exposure to near-index levels | Stick to 15-25 stocks |
| All stocks in one sector | Single sector can drag the whole portfolio | Cap sectors at 30-35% |
| Buying 3-star stocks | Average factor profiles don't earn premiums | Focus on 4-star and 5-star |
| Never rebalancing | Factor signals decay; ratings change | Rebalance monthly |
| Ignoring individual factors | A high composite can mask a critical weakness | Always check the six factor scores |
#Putting It All Together
A well-constructed factor portfolio using our rankings looks like this:
- 20 stocks from the Strong Buy and Buy tiers
- Equal-weighted at ~5% each
- 6-8 sectors represented, none above 30-35%
- Rebalanced monthly based on rating changes
- Average composite score of 78+ across the portfolio
This isn't a set-it-and-forget-it index fund. It's a systematic, rules-based approach that requires monthly attention — but the historical results suggest the effort is worth it.
#Further Reading
Last updated: February 20, 2026