Equity Portfolios (Ch7) Flashcards
How can Domestic Equity Funds be categorised? (3)
- size: small/medium/large
- goals: growth/value or blend
- area: sector/industry
How can International Funds be categorised? (2)
– Developed/Emerging
– Geographic/Industry
What is the Equity Strategy of an index fund?
Follow/ match a benchmark which is a specific market index i.e. SMP, MSCI, CRSP
What is the Equity Strategy of a passive fund?
Follow/ match a benchmark which isn’t a market index
What is the equity strategy of an Index+/Structured Active Funds/Risk-Controlled Active?
Try to beat/out-perform a benchmark by changing the weightings of assets within the portfolio.
Which if the three investment strategies is the cheapest to invest in? the most expensive?
- index fund is the cheapest, not much skill required
- Structured Active Funds are the most expensive, skilled people are needed.
How do large and small cap funds act differently?
Large Caps - more diversified, more capital backing, slow to react to market movements
Small Caps - less diversified, more risky, more agile and sensitive to market movements, more growth potential.
What is the goal of a passive fund manager?
to minimise the difference in fund returns to the returns of the benchmark, i.e. minimise tracking error
What is the formula for tracking error?
TE = delta σ x (sqrt of P)
Where:
P = the number of return periods in a year
σ = standard deviation of the return differential between the return of Fund and the return on a benchmark.
How does a growth orientated investor invest?
invest in any asset (small and large cap) as long as they produce “above average earnings”, i.e. earnings larger than expected, so not just small caps but also large caps in market downturns
What does a growth orientated investor look at in a company?
companies that are expected to experience rapid growth in their EPS (usually assume that PE ratio will remain constant)
How does a value orientated investor invest?
When the price falls you invest, value performs better over long term horizons.
What does a value orientated investor look at in a company?
focus on stock prices, must think stock is cheap before they buy. (usually assume that PE ratio is below natural rate and will increase)
what does sector rotation refer to?
Shift funds between sectors to take advantage of the next rise in a specific sector. i.e. forecasting the economy, timing hot market sectors can be risky
At what stage of the economic cycle does Financial Industry perform well?
Performs best towards the end of the economic downturn as expectation of economy improve and interest rates are low.
At what stage of the economic cycle does Consumer Durables (Discretionary) perform well?
As economy begins to recovers, consumers spend more.
At what stage of the economic cycle does Capital Goods perform well?
when Business spend more to improve efficiency and reduce costs. Sales improve.
At what stage of the economic cycle does Capital Goods perform well?
Cyclical Industries: Rise and fall with economy. Attractive during early stages of recovery. These include heavy industry and durable goods, airlines, car manufacturers etc. Usually come with high operating leverage.
At what stage of the economic cycle does Basic Materials perform well?
Attractive at the peak of the business cycle. Inflation is high and demand higher than supply. Energy, metals and other raw material are in demand regardless of inflationary effects.
At what stage of the economic cycle does Consumer Staples/Necessities perform well? i.e. pharmaceuticals, food
Counter cyclical firms that provide health care and pharmaceuticals, food, beverage etc. Provide basic necessities, constant throughout, however perform better than other industries in a downturn.
What is technical analysis?
Uses historical data to infer future returns.
Managers that employ technical strategies assume one of which two things?
- Stock prices will continue in the same direction, price momentum
- Stock price trend will reverse, contrarian strategy.
What will managers do if they assume a price momentum vs a contrarian strategy? outline both
- momentum: buy more hot stocks and offload the cold, assuming an under reaction of the market.
- contrarian: buy stock when investors are bearish, sell stock when investors are bullish, assuming an over reaction of the market.
what is a recommended market anomaly investment strategy?
investing in small caps based on varies anomalies of the firms themselves
- large variety
- postitive nominal returns
what are the 3 steps in the equity investment process?
1 select equity mix
2 decide appropriate equity processes
3 select managers
what is equity behaviour based on?
risk and return
what is a desired equity mix?
one that includes more than just one type of equity class, i.e. you do not diversify by investing in only small caps or only large caps
What is more correlated? style of investing or type of market cap?
style, i.e. growth or value
Which equity style and cap offer the highest returns since 2000?
value, especially in the small and medium caps
Which equity style and cap have the highest volatility/risk since 2000?
Growth, especially small caps and international, over longer time periods volatility decreases.
In which economic state should you invest in growth and when should you invest in value?
- Growth: downturns when growth slows - usually invested in large-caps
- Value: tend to perform better are the economy recovers from a downturn
how do you conduct a style analysis of a portfolio? (3 steps)
- compare style groups within portfolio against applicable index which reflects the style
- understand the relationship between the portfolio and the investment style
- understand influences responsible for portfolios performance
why conduct a style analysis? (4)
inform clients, performance measurement, allow diversification, all for control
does growth or value investment out perform in market downturns?
growth
high risk low return usually but offers hedge in market downturns
