High-Risk Factor Alternatives
Top 5 of the Week of September 17
In our Top 5 this week, Michael Harris from Price Action Lab talks about the rising development of equity market neutral strategies. For Newfound Research, Justin Sibears investigates how we deal with risk management. And Nicolas Rabener from Factor Research examines Low Volatility, Low Beta, and Low Correlation factors.
Wesley Gray, Ph.D., writing for Alpha Architect, discusses the hot topic in investing right now—trading costs. And The Integrating Investor, Seth Levine, considers who needs an investing philosophy…
A Modern Strategy
- Equity market neutral strategies are being developed all across the globe by quants because the idea behind them is attractive
- But these strategies have been underperforming quite drastically over the last 11 years due to the struggle to find quality features, the influence of predatory algorithms, and market conditions
- Developing a profitable strategy will require sourcing data on the high quality and economic value of the features used to rank securities, which will be no easy thing to find
Risk Management Choices
- Of the eight main strategies for managing risk (that fit into diversification, options, equity, and trend-following classifications), all successfully reduce risk
- And, with the exception of the equity collar and the protective put strategies, they also improve risk-adjusted returns
- Long-term, all the risk management strategies differ in performance relative to each other and the S&P 500
- Best to know too; they all act like insurance—”underperforming on the upside and outperforming on the downside”
What risk management strategy do you apply to your own investing approach? Share your comments in the section below
High-Risk Factor Alternatives
- Low Volatility, Low Beta and Low Correlation factors are considered perhaps exotic by more traditional stock pickers rather than just looking at price or quality
- The idea that low-risk stocks will outperform stocks with high risks goes against what investors are classically taught
- But, as the last two decades shows, low-risk factors yield a strong performance, so they are becoming more common in portfolios
- To generate attractive risk-adjusted returns, they do require beta-neutrality though
Investing’s Current Hot Topic
- Everyone is talking about trading costs at the moment due to the increase in systematic factor investing strategies
- Price impact is a significant driver for trading costs, in particular for investors who move large amounts of money around, and frictional costs from factor strategies are too expensive to generate profitable returns
- Research shows that because of transaction costs factor strategies have capacity limits, but that the volume on these strategies might be more than previously thought
Define Your Philosophy
- Being a successful investor isn’t about strength, character, math skills or intellect, it’s about being convicted about your model and maintaining your integrity
- Better known as your investing philosophy, all our conscious decisions are influenced by “the abstractions we hold in our heads”
- So, to ensure you’re making the most of your investment returns be sure to define what markets you’re working in and what knowledge is impacting you to answer ‘what should you do?’
Top 5 of the Week is a summarized collection of financial investment articles that we like and think you might like too. Having written thousands of pages of equity strategy and company research between us, we understand the allure of the ever-changing world of finance. Investing is an art form—and like everything, something you can work on and improve at. There are some excellent writers out there on the finance web, some offer a running commentary on today’s market, some are doing research, some have tips on how to Become a Better Investor, and some just lift the cloud of fog behind a lot of financial jargon. Each week we will keep you up to date with the top 5 articles worthy of your attention.
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