Passive Management Styles Quiz

Passive Management Styles

• Approximately 90% of portfolio returns are derived from asset allocation, indicating limited value in specific asset selection.
• This finding raises questions about its consistency with theoretical diversification principles.

Strategic Asset Allocation (SAA)

• SAA involves setting target percentage allocations among various asset classes.
• The goal is to identify efficient allocations and adopt a buy-and-hold strategy.
• Managers believe aggregate asset classes are efficiently priced, with no abnormal profits possible from switching investments.
• Periodic rebalancing of portfolios occurs to maintain original target allocations as returns fluctuate.

Tactical Asset Allocation (TAA)

• TAA is based on the belief that certain asset classes are mispriced, focusing on temporary mispricing.
• Managers aim to outperform passive benchmarks through market timing, making it an active approach.
• Empirical evidence suggests that most managers struggle with effective market timing.

Dynamic Asset Allocation (DAA)

• DAA can refer to periodic rebalancing under SAA and TAA strategies or market timing motivated switches.
• Some definitions of DAA include strategies to replicate return distributions, like switching funds to mimic option payoffs.

Asset Allocation Example

• Investment teams decide specific investments within equities, bonds, or property based on risk profiles and regulations.
• Active management involves frequent trading to capitalize on price movements, while passive management follows a buy-and-hold approach.

Investment Assets: Cash and Bonds

• Bonds are contracts between issuers and investors, requiring specified cash payments on future dates.
• Payments consist of the principal and interest, categorized as coupon-paying bonds or zero-coupon bonds.

Coupon-Paying Bonds

• These bonds offer regular interest payments, with valuations considering the inverse relationship between price and yield.

Zero-Coupon Bond (ZCB) Valuation

• Valuation involves discounting a single future cash flow, typically utilizing short-term maturity for calculations.

Investing in Bonds

• Bonds provide fixed returns that rank before equity returns, perceived as low risk when held to maturity.
• However, trading bonds based on interest rate forecasts can introduce high risk.

Risks of Bonds

• Key risks include interest rate risk, reinvestment risk, inflation risk, credit/default risk, and liquidity risk.
• Long-term equity returns tend to outperform bonds, but short-term equity investments can lead to significant market losses.

Direct Investment in Shares

• Practical issues in direct share investments include purchase methods, share selection, transaction costs, ownership documentation, and taxation.

Investing in Shares in Australia

• Shares are traded on the Australian Stock Exchange (ASX), requiring broker accounts for transactions.
• Private company shares are harder to identify and usually involve personal relationships.

Stock Selection Methods

• Selecting stocks involves various methods: fundamental analysis, technical analysis, or random selection, each tied to finance theory.
• The ASX provides access to diverse industries for potential diversification beyond Australian shares.

Share Price Forecasting Game

• A forecasting game encourages participation, with potential bonus marks for accurate predictions of closing share prices for specified companies.