Style analysis

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Do curso por Rice University

Investment Strategies and Portfolio Analysis

116 classificações

Rice University

Investment Strategies and Portfolio Analysis

116 classificações

Curso 4 de 5 em Specialization Investment and Portfolio Management

In this course, you will learn about latest investment strategies and performance evaluation. You will start by learning portfolio performance measures and discuss best practices in portfolio performance evaluation. You will explore different evaluation techniques such as style analysis and attribution analysis and apply them to evaluate different investment strategies. Special emphasis will be given to recent financial market innovations and current investment trends. After this course, learners will be able to: • Describe performance measurement measures • Evaluate portfolio performance • Describe and contrast different investment strategies • Propose investment strategy solutions

Na lição

Performance evaluation: Style analysis and performance attribution

In this module, you are going to learn to use two analytical tools that are widely used in practice to evaluate what the portfolio performance can be attributed to. You will first learn about style analysis. Then, you will learn about attribution analysis, which has become a crucial component in internal evaluation system of investment managers and institutional clients in the industry. Focus will be placed on the practical applications.

Style analysis7:11

Style Analysis - Part II4:42

Style analysis: How does it work?7:44

Conheça os instrutores

Arzu Ozoguz
Finance Faculty
Jones Graduate School of Business

Hello everyone, welcome back.

In the previous module, we looked at several risk adjusted return measures

that can be used to evaluate performance.

The problem, however,

is that most of these return performance measures can be gamed.

For example, suppose a fund manager claims to provide index exposure only.

What if he buys futures on the index and invests the remaining of the assets on

a momentum strategy that has zero correlation with the index, right?

What we really want to do in order to better evaluate performance is dig in

a little deeper to determine how much of the portfolio return is due to the style

and how much is really due to selection, right.

The return due to selection basically is a difference between the fund return and

that of a passive mix of similar styles, right.

Now this is an important distinction, right, because it is only the return

due to selection of course, right, that can be attributed or

contributed to a talent or the skill of fund manager, right.

So the technique that allows us to do exactly that is called style analysis,

right.

So in this lecture, you're going to learn about style analysis and how to use it.

All right, so what is style analysis?

Well, broadly speaking, style analysis is a powerful and

sophisticated technique, that was also developed by William Sharpe,

to analyze the investment styles of portfolio managers, right.

The key element of this technique is the ability to describe the performance of

a fund, not by looking at the individual portfolio holdings, not by looking

at what the portfolio holds, but rather by looking at how the portfolio's

historical returns are related to various investment styles, right.

In other words, by looking at how the portfolio returns act, so

to speak, rather than what the portfolio holds, right.

But what is an investment style?

Well, an investment style can be thought of as a method of investing or

even as a kind of benchmark, right.

So for example, while in the US, right,

the industry terminology for equity styles varies somewhat.

The style definitions have somewhat converged to the point that they typically

include some classification of both the capitalization orientation and

the location on the value and growth continuum, right.

So this table, for example, shows how these different equity styles relate

to the different segments of the equity market, right.

So you can think of the market being broken into a three-by-three matrix,

right, based on market capitalization, large-cap, mid-cap,

small-cap and investment style, right, value, market-oriented, growth, right.

So for example, a portfolio manager who primarily invests in

small-cap stocks would be said to follow a small-cap growth style, right.

Now there are other investment styles as well, right?

Other investment styles could be large-cap value style or

even a government bond style, right.

And finally, a portfolio could itself represent a mix of different styles.

For example, this graph from Sharpe's original paper on the topic, right,

a style analysis that analyzed fund styles illustrates how the famous

Fidelity Magellan fund was once classified largely as a combination

of growth stocks, right,

medium cap and small cap styles, with a little bit of

Foreign stocks during the 1980s, right.

So this graph on the left here illustrates

the contribution of the different styles to the fund returns, right.

Now the pie chart on the right, right, shows that during this period,

right, over 97% of the monthly variation in the Magellan returns could

be attributed to the return on a passive portfolio with similar styles, right.

The remaining, of course, is the component of return due to selection, right.

Now here's another graph for you from the same paper, right.

This graph shows you how the investment styles of the Magellan fund shifted

over these periods, right, progressively increasing its exposure to large

growth stocks and decreasing its exposure to small-cap stocks during the 80s, right.

Now this is not surprising, because as the fund grew, right,

it became increasingly difficult to invest in small stocks.

So the style analysis, as a tool, right, can be used in many different ways.

It's informative in many different ways.

For example, right, as I showed, often funds may have a stated objective,

but a style analysis can be used to determine whether a fund

strategy does actually follow this stated objective or

whether it has deviated from the stated objective.

Two, right, it can be used, right, the style analysis gives you a tool

to create a true benchmark for the portfolio in question, right,

rather than some arbitrary benchmark like the S&P 500, right.

Put differently, it helps us to evaluate what part of the portfolio

return can truly be attributed to selection rather than style, right.

As I said before, right, this is the part, the selection,

right, this is the part of the fund return, right,

that the manager should get compensation for, right.

After all, we can very easily create the same style mix by holding simple right,

passive indices for the same styles, right.

And finally, it provides a more accurate picture of the exposures of a fund,

right, that you may be investing in, and therefore, it is informative

in evaluating how this fund best fits with your overall portfolio.

Okay, in this lecture,

I briefly introduced the concept of style analysis and how it can be used.

Style analysis is a technique, a statistical method, that allows us to

decompose a portfolio return into a set of style-specific benchmarks.

Now, let's looks at how it works.

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