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    Investment Analysis and Portfolio Management: Lecture Presentation Software

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    Assfaw Kebede
    This document summarizes key points from Chapter 17 of the textbook "Investment Analysis and Portfolio Management" regarding equity portfolio management strategies. It discusses the differences between passive and active management styles, techniques for constructing passive index portfolios, and factors active managers consider like value vs growth styles. It also covers various asset allocation approaches and how derivatives like futures and options can be used in equity portfolio management.

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    Download as PPT, PDF, TXT or read online from Scribd

    Investment Analysis and Portfolio Management: Lecture Presentation Software

    Uploaded by

    Assfaw Kebede
    36 views35 pages
    This document summarizes key points from Chapter 17 of the textbook "Investment Analysis and Portfolio Management" regarding equity portfolio management strategies. It discusses the differences between passive and active management styles, techniques for constructing passive index portfolios, and factors active managers consider like value vs growth styles. It also covers various asset allocation approaches and how derivatives like futures and options can be used in equity portfolio management.

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    This document summarizes key points from Chapter 17 of the textbook "Investment Analysis and Portfolio Management" regarding equity portfolio management strategies. It discusses the differences between passive and active management styles, techniques for constructing passive index portfolios, and factors active managers consider like value vs growth styles. It also covers various asset allocation approaches and how derivatives like futures and options can be used in equity portfolio management.

    Copyright:

    Attribution Non-Commercial (BY-NC)
    Download as PPT, PDF, TXT or read online from Scribd
    Download as ppt, pdf, or txt
    36 views35 pages

    Investment Analysis and Portfolio Management: Lecture Presentation Software

    Uploaded by

    Assfaw Kebede
    This document summarizes key points from Chapter 17 of the textbook "Investment Analysis and Portfolio Management" regarding equity portfolio management strategies. It discusses the differences between passive and active management styles, techniques for constructing passive index portfolios, and factors active managers consider like value vs growth styles. It also covers various asset allocation approaches and how derivatives like futures and options can be used in equity portfolio management.

    Copyright:

    Attribution Non-Commercial (BY-NC)
    Download as PPT, PDF, TXT or read online from Scribd
    Download as ppt, pdf, or txt
    of 35

    Lecture Presentation Software

    to accompany

    Investment Analysis and Portfolio Management


    Seventh Edition by

    Frank K. Reilly & Keith C. Brown

    Chapter 17

    Chapter 17 - Equity Portfolio Management Strategies


    Questions to be answered: What are the two generic equity portfolio management styles? What are three techniques for constructing a passive index portfolio? How does the goal of a passive equity portfolio manager differ from the goal of an active manager? What is a portfolios tracking error and how is it useful in the construction of a passive equity investment?

    Chapter 17 - Equity Portfolio Management Strategies


    What is the difference between an index mutual fund and an exchange-traded fund? What are the three themes that active equity portfolio managers can use? What stock characteristics differentiate valueoriented and growth-oriented investment styles? What is style analysis and what does it indicate about a managers investment performance?

    Chapter 17 - Equity Portfolio Management Strategies


    What techniques are used by active managers in an attempt to outperform their benchmark? What are differences between the integrated, strategic, tactical, and insured approaches to asset allocation? How can futures and options be useful in managing an equity portfolio?

    Passive versus Active Management


    Passive equity portfolio management
    Long-term buy-and-hold strategy Usually tracks an index over time Designed to match market performance Manager is judged on how well they track the target index

    Active equity portfolio management


    Attempts to outperform a passive benchmark portfolio on a risk-adjusted basis

    An Overview of Passive Equity Portfolio Management Strategies


    Replicate the performance of an index May slightly underperform the target index due to fees and commissions Costs of active management (1 to 2 percent) are hard to overcome in risk-adjusted performance Many different market indexes are used for tracking portfolios

    Index Portfolio Strategy Construction Techniques


    Full replication
    Sampling Quadratic optimization or

    programming

    Full Replication
    All securities in the index are purchased in proportion to weights in the index This helps ensure close tracking Increases transaction costs, particularly with dividend reinvestment

    Sampling
    Buys a representative sample of stocks in the benchmark index according to their weights in the index Fewer stocks means lower commissions Reinvestment of dividends is less difficult Will not track the index as closely, so there will be some tracking error

    Expected Tracking Error Between the S&P 500 Index and Portfolio Samples of Less Than 500 Stocks
    Expected Tracking Error (Percent) 4.0 3.0 2.0
    Exhibit 17.2

    1.0
    500 400 300 200 100 0

    Number of Stocks

    Quadratic Optimization (or programming techniques)


    Historical information on price changes and correlations between securities are input into a computer program that determines the composition of a portfolio that will minimize tracking error with the benchmark This relies on historical correlations, which may change over time, leading to failure to track the index

    Methods of Index Portfolio Investing


    Index Funds
    Attempt to replicate a benchmark index

    Exchange-Traded Funds
    EFTs are depository receipts that give investors a pro rata claim on the capital gains and cash flows of the securities that are held in deposit by a financial institution that issued the certificates

    An Overview of Active Equity Portfolio Management Strategies


    Goal is to earn a portfolio return that exceeds the return of a passive benchmark portfolio, net of transaction costs, on a risk-adjusted basis Practical difficulties of active manager
    Transactions costs must be offset Risk can exceed passive benchmark

    Fundamental Strategies
    Top-down versus bottom-up approaches Asset and sector rotation strategies

    Sector Rotation
    Position a portfolio to take advantage of the markets next move Screening can be based on various stock characteristics:
    Value Growth P/E Capitalization Sensitivity to economic variables

    Technical Strategies
    Contrarian investment strategy Price momentum strategy Earnings momentum strategy

    Value versus Growth


    Growth stocks will outperform value stocks for a time and then the opposite occurs Over time value stocks have offered somewhat higher returns than growth stocks

    Value versus Growth


    Growth-oriented investor will:
    focus on EPS and its economic determinants look for companies expected to have rapid EPS growth

    assumes constant P/E ratio

    Value versus Growth


    Value-oriented investor will:
    focus on the price component not care much about current earnings assume the P/E ratio is below its natural level

    Style
    Construct a portfolio to capture one or more of the characteristics of equity securities Small-capitalization stocks, low-P/E stocks, etc Value stocks appear to be underpriced
    price/book or price/earnings

    Growth stocks enjoy above-average earnings per share increases

    Does Style Matter?


    Choice to align with investment style communicates information to clients Determining style is useful in measuring performance relative to a benchmark Style identification allows an investor to diversify by portfolio Style investing allows control of the total portfolio to be shared between the investment managers and a sponsor

    Determining Style
    Style grid:
    firm size value-growth characteristics

    Style analysis
    constrained least squares

    Benchmark Portfolios
    Sharpe
    T-bills, intermediate-term government bonds, long-term government bonds, corporate bonds, mortgage related securities, large-capitalization value stocks, large-capitalization growth stocks, medium-capitalization stocks, smallcapitalization stocks, non-U.S. bonds, European stocks, and Japanese stocks

    Benchmark Portfolios
    Sharpe BARRA
    Uses portfolios formed around 13 different security characteristics, including variability in markets, past firm success, firm size, trading activity, growth orientation, earnings-to-price ratio, book-to-price ratio, earnings variability, financial leverage, foreign income, labor intensity, yield, and low capitalization

    Benchmark Portfolios
    Sharpe BARRA Ibbotson Associates
    simplest style model uses portfolios formed around five different characteristics: cash (Tbills), large-capitalization growth, smallcapitalization growth, large-capitalization value, and small-capitalization value

    Timing Between Styles


    Variations in returns among mutual funds are largely attributable to differences in styles Different styles tend to move at different times in the business cycle

    Asset Allocation Strategies


    Integrated asset allocation
    capital market conditions investors objectives and constraints

    Strategic asset allocation


    constant-mix

    Tactical asset allocation


    mean reversion inherently contrarian

    Insured asset allocation


    constant proportion

    Asset Allocation Strategies


    Selecting an allocation method depends on:
    Perceptions of variability in the clients objectives and constraints Perceived relationship between the past and future capital market conditions

    Using Futures and Options in Equity Portfolio Management


    Systematic and unsystematic risk of equity portfolios can be modified by using futures and options derivatives Selling futures on the portfolios underlying assets reduces the portfolios sensitivity to price changes of the asset Options do not have symmetrical impact on returns

    The Use of Futures in Asset Allocation


    Allows changing the portfolio allocation quickly to adjust to forecasts at lower transaction costs Futures can maintain an overall balance in a portfolio Futures can gain exposure to international markets Currency exposure can be managed using currency futures and options

    Using Derivatives in Passive Equity Portfolio Management


    Futures and options can help control cash inflows and outflows from the portfolio
    Inflows - index contracts allow time to make investments Outflows - large planned withdrawal is made by selling securities, which causes an increase in cash holdings; futures can counterbalance this until the withdrawal

    Options can be sold to reduce weightings in sectors or individual stocks during rebalancing

    Using Derivatives in Active Equity Portfolio Management


    Modifying systematic risk Modifying unsystematic risk

    The Internet Investments Online


    www.russell.com www.firstquadrant.com www.wilshire.com www.fool.com www.dailystocks.com

    End of Chapter 17
    Equity Portfolio Management Strategies

    Future topics Chapter 18


    Bond Fundamentals

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