Tuesday, February 07, 2017

Equity Management #1 : Ten investment insights which matter

I thought I should look for a more advanced book after reviewing Tim Feriss' Tools for Titans and have settle on Jacobs and Levy's Equity Management which I doubt anyone would read because it is quite an advanced guide and looks like a huge brick. The way I'm going to cover this book is going to be slower, with about one article a week.

This book is, upon inspection, quite difficult to understand but still considered way easier than Benjamin Graham's Security Analysis.

Today I am just going to give everyone a snippet of Chapter 1 which is entitled Ten Investment Insights which matter. 

I will try to summarise each insight into a sentence for a start :

a) The Stock Market is a complex system - The stock market is essentially random but it has a web of return regularities in the form of market anomalies so it cannot be characterised simply as a random or predictable system at all.

b) Market complexity can be exploited with a rich multidimensional model - The more predictors you build to forecast returns, the bigger your informational advantage.

c) Return-predictor relationships should be disentangled - Low P/E needs to be disentangled from the small firm effect because most low P/E firms are small companies.

d) An investment firm should abide by the law of one alpha - Your value strategy may buy a stock which your momentum strategy wants to short. 

e) The investment process should be dynamic and transparent - Tight risk control is bad for returns.

f) Customised, integrated process preserves insights - When you try to optimise your portfolio, don't forget to include costs in your model.

g) Integrated long-short optimization can provide enhanced returns and risk control for market neutral and 130-30 portfolios - Nobody in the financial blogosphere pairs their long positions with a short position to capture alphas. One of us should try this one day.

h) Alpha from security selection can be transported to any class - Basically it means that if your long-short positions generate alpha returns, they can be paired with a long position in the permanent portfolio for a boost to your returns.

i) Portfolio optimization should take into account an investor's aversion to leverage - The CFA program uses the mean-variance optimization to control leverage. This is not cool anymore.

j) Beware of risk-shiifting, free lunches and irrational markets - Mostly about LTCM.

As you can see, this is fairly complicated box and targetted at professionals.

Let's see where this journey over 39 chapters will take us. 

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