PM 1: Market efficiencies + investment strategies

  • Created by: charlie
  • Created on: 20-05-18 14:26
Passive strategy (In efficiency)
OBJ: Minimise tracking error to underlying index/ HOW: Decrease risk (increase diversification)/ Increase returns (Decrease turnover costs)/ No pure passive strategy (incur rebalancing costs/ tracking error...)
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Active strategy (In inefficiency)
OBJ: Seek superior returns relative to benchmark/ HOW: Fundamental/ technical analysis to identify over- (short) or under- (long) valued securities (fundamental/ technical analysis)
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Asset valuation/ selection: DCF (active = lots of data)
Dividend Discount model (div paid grows a cst rate g = perpetuity)/ Gordon growth model (need dividend forecasts/ req ROR on stock/ div growth rates)
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Asset valuation/ selection: Portfolio analysis (passive = less data)
MARKOWITZ 2 FUND SEPARATION: 1) Find weights of optimal risky portfolio/ Tangency portfolio (wA*wB*) 2) Combine with rf to get efficient set (CML) 3) Decide where to sit depending on risk preferences (risk-lovers/ risk-haters can use same portfolio)
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CAPM Propositions from Markowitz model
1) Tangency portfolio (T) = market portfolio (M) (holds weights of companies proportional to MV) 2) Expected return only compensates for systematic risk (un-diversifiable)
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Paradox of efficient markets (G + S): ISSUE
1) Informed trading makes markets efficient 2) Trading on info is costly (acquiring/ processing/ trading) 3) If prices were fully efficient no one would bother collecting = no data would be collected 4) market would break down
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Paradox of efficient markets (G + S): REASON
Markets have UNIFORMED TRADERS which make prices less than fully efficient (noise traders = info processing error/ behavioural bias + liquidity traders = liquidity constraints)
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Paradox of efficient markets (G +S): IMPLICATIONS
1) New EM definition (prices reflect info that traders profitably acquire + trade on) 2) For EM existence need active managers (against EMH) 3) Unknown no. of active traders (too many = resource waste) 4) Tendency towards EM (EM good benchmark)
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Other cards in this set

Card 2

Front

Active strategy (In inefficiency)

Back

OBJ: Seek superior returns relative to benchmark/ HOW: Fundamental/ technical analysis to identify over- (short) or under- (long) valued securities (fundamental/ technical analysis)

Card 3

Front

Asset valuation/ selection: DCF (active = lots of data)

Back

Preview of the front of card 3

Card 4

Front

Asset valuation/ selection: Portfolio analysis (passive = less data)

Back

Preview of the front of card 4

Card 5

Front

CAPM Propositions from Markowitz model

Back

Preview of the front of card 5
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