Question

Investors often seek alpha return using various cutting edge investment strategy. Some of the approaches such as value investing has yielded superior return in the past, however it hasn’t been the case since post 2008. Technology companies has consistently outperformed high cash flow companies over the past 12 years. Extrapolate with sound rationale of how equity investors can consistently achieve superior return in 500 words.

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Answer 1

The idea that active managers performed better has been around there for quite some time and there have been questions as well as to do there really outperform the market on consistent basis after considering the cost. Some managers have been able to generate excess return by using value investing framework, some investor have been able to use the quantitative approach to generate excess return from the market and some have focused on the small cap stocks, there are different approaches used by different managers across the world to generate good returns for their clients. Instead of always focusing to beat the market one should try to generate a level of sustainable risk adjusted return. There are different approach investors can use to generate good returns.

· Depending on your risk level overweight the portfolio which is expected to perform better. For example, when the market is going through a lot of volatility the quantitative strategy seems to have done better and produce better returns but when the markets are stable the performance of quantitative strategy is not very good.

· When the economy is at the early stage of boom or has just recovered from recession, at this overweighting the long equity funds can produce good results. At this stage the investor can also think of overweighting the small cap stocks because the performance of small cap stocks is better when the economy will boom.

· When the market is expecting volatility or it is expected to go down then underweight the long equity fund and consider using derivatives to protect your portfolio or using futures to short some of the stocks in the market. Use of derivatives should be to hedge your portfolio.

· When the economy is not doing well or expected to not do well for sometime then focus on allocating your portfolio to large cap stocks. Large cap stocks have the ability to weather the storm far more than the small cap stock. At these times it would be wise to allocate some of your portion to fixed income securities.

· In times of recession it is more important to protect your portfolio rather than expecting gains on the stock market. In these times the focus should on overweighting high-quality securities or dividend aristocrats which pay consistent dividends.

It is also important that the expectation of the investor from the market is reasonable and not excessive because the focus of investor should be to generate risk-adjusted sustainable return according to the risk appetite of the investor not blindly taking risk in the hope of high return because if you do that you might be able to gain return some time but there is high probability that you will loose your capital and in the investing you need to have capital to be able to earn return.