MANAJEMEN INVESTASI

SUMMARY CHAPTER 11

Lecture:
Dr. Vinola Herawaty, Ak.,MSc

Created by:
Mutia Rasya Azzahra (023001801148)

JURUSAN AKUNTANSI
FAKULTAS EKONOMI DAN BISNIS
UNIVERSITAS TRISAKTI
JAKARTA
2020


CHAPTER 11
MANAGING A STOCK PORTFOLIO: A WORLDWIDE ISSUE

The Impact of the Overall Market on Stocks

Aggregate market movements remain the largest single factor explaining fluctuations in both
individual stock prices and portfolios of stocks. The impact of the market on every investor in
common stocks is pervasive and dominant, and must be fully appreciated by investors if they
are to be successful.

For a well-diversified portfolio, which each investor should hold, the market is the dominant
factor affecting the variability of its return. Although any given portfolio may outperform the
market, almost all typical stock portfolios are significantly influenced by what happens to the
market as a whole.

Market risk is the single most important risk affecting the price movements of common stocks.
For very well diversified portfolios, market effects can account for 90 percent and more of the
variability in the portfolio’s return.

Building Stock Portfolios

Individual investors often consider the investment decision—based on objectives, constraints,
and preferences—as consisting of two steps:
1. Asset allocation, refers to allocating total portfolio wealth to various asset classes, such as
stocks, bonds, and cash equivalents. In many respects, asset allocation is the most important
decision an investor makes.
2. Security selection

The Passive Strategy

If the market is totally efficient, no active strategy should be able to beat the market on a risk-
adjusted basis, and, therefore, a passive strategy may be superior. Passive Management
Strategy is a strategy whereby investors do not actively seek out trading possibilities in an
attempt to outperform the market. Passive investment management does not try to find
undervalued stocks, nor does it try to time the market. Instead, passive investing is concerned
with achieving the returns available in various market sectors at minimum costs.

An investor can simply follow a buy-and-hold strategy for whatever portfolio of stocks is
owned. Alternatively, a very effective way to employ a passive strategy with common stocks
is to invest in an indexed portfolio.
1. Buy and hold strategy
A buy-and-hold strategy —an investor buys stocks and basically holds them until some
future time in order to meet some objective. The emphasis is on avoiding transaction costs,
frequent taxable transactions, additional search costs, the investment in time necessary to
actively manage a portfolio, and so forth. The investor believes that such a strategy will,
over some period of time, produce results as good as alternatives that require active
management. These alternatives incur search and transaction costs, and inevitably involve
mistakes.

It is also important to recognize that the investor will, in fact, have to perform certain
functions while the buy-and-hold strategy is in existence. For example, any income
generated by the portfolio may be reinvested in other securities. Alternatively, a few stocks
may do so well that they dominate the total market value of the portfolio and reduce its
diversification. If the portfolio changes in such a way that it is no longer compatible with
the investor’s risk tolerance, adjustments may be required. The point is simply that even
under such a strategy investor must still take certain actions.
2. Index Funds
Index funds arose in response to the large body of evidence concerning the efficiency of
the market, and they have grown as evidence of the inability of mutual funds to consistently,
or even very often, outperform the market continues to accumulate.
3. ETFs
Vanguard also offers a number of ETFs which can accomplish the same objectives as an
index fund. Expenses are typically even lower than those for an index fund, and shares can
be bought and sold when the market is open.

The Active Strategy

Pursuit of an active strategy assumes that investors possess some advantage relative to other
market participants. Active Management Strategy is a strategy designed to provide additional
returns by trading activities. Most investors still favor an active approach to common stock
selection and management, despite the accumulating evidence from efficient market studies
and the published performance results of institutional investors. The reason for this is
obvious—the potential rewards are very large, and many investors feel confident that they can
achieve such rewards even if other investors cannot.

There are three components of the active approach to stock selection and management:
1. Stock Selection
The most traditional and popular form of active stock strategies is the selection of
individual stocks believed to offer superior return-risk characteristics.
Ø The Justification for Stock Selection
To gain some appreciation of the importance of stock selection, consider the cross-
sectional variation in common stock returns.
Ø The importance of Stock Selection
The majority of investment advice and investment advisory services are geared to the
selection of stocks thought to be attractive candidates at the time.
Ø The Importance of Earnings per Share (EPS) in Stock Selection
One of the most important components of stock selection is the forecast of earnings per
share for particular companies because of the widely perceived linkage between
expected EPS and stock returns. Earnings are critical in determining stock prices, and
what really matters are a company’s expected earnings.
Ø Growth Stocks and Value Stocks
Value stocks are stocks whose prices are considered “cheap” relative to earnings, book
value, and other measures thought indicative of value. Growth Stocks is stocks that
emphasize expectations about future growth in earnings. It is generally assumed that
growth stocks have high P/E ratios while value stocks have low P/E ratios.
Ø Potential Problems with Security Analyst
Analysts forecasts of EPS are typically overly optimistic. Errors can be large, and
occur often. Interestingly, despite modern technology and advances in the
understanding of stocks and financial markets, analysts’ estimates have not become
more accurate.
 Traditionally, security analysts were under great pressure to avoid the word “sell” from
the companies they follow. Analysts often faced significant pressure from their own
firms seeking to be the underwriter on lucrative stock and bond underwritings.
Ø Using Analysts Output Effectively
Investor compile useful information, and often have good insights as to future
prospects because they have followed the industries and companies for years. They
should use this information in conjunction with their own analysis. Investors should
be skeptical of such items as earnings estimates, because analysts are typically overly
optimistic, and they should be greatly skeptical about price targets and estimates of
price one year from now.

Three outstanding sources of independent information are

a) The Value Line Investment Survey is one of the most famous sources of stock
information for investors. It is available in printed and electronic format by
subscription, and widely available in libraries.
b) Standard and Poor’s Outlook is available by subscription and at libraries. A very
informative weekly source of information.
c) Morningstar, although best known for mutual funds, now analyzes and
recommends individual stocks.

2. Sector Rotation
An active strategy that is similar to stock selection is group or sector rotation. This strategy
involves shifting sector weights in the portfolio in order to take advantage of those sectors
that are expected to do relatively better, and avoid or deemphasize those sectors that are
expected to do relatively worse. One standard approach in sector analysis is to divide
common stocks into four broad sectors: interest-sensitive stocks, consumer durable stocks,
capital goods stocks, and defensive stocks. Each of these sectors is expected to perform
differently during the various phases of the business and credit cycles.
Ø Using Sector Analysis
It is clear that effective strategies involving sector rotation depend heavily on an
accurate assessment of current economic conditions. A knowledge and understanding
of the phases of the business cycle are important, as is an understanding of political
environments, international linkages among economies, and credit conditions both
 domestic and international. Investors are searching for indicators that successfully
identify when to shift a portfolio to a more aggressive or defensive position.
Ø Indirect Investing in Sectors
Investors can pursue the sector investing approach using what are called sector mutual
funds, or simply sector funds. Several hundred sector funds are available. Real estate,
utilities, and health care are three prominent sectors for funds.
Ø Industry Momentum and Sector Investing
Sector funds are particularly popular with momentum traders. Momentum in stock
returns refers to the tendency of stocks that have performed well (poorly) to continue
to perform well (poorly).
3. Market Timing
Market timers attempt to earn excess returns by varying the percentage of portfolio assets
in equity securities. One important factor affecting the success of a market timing strategy
is the amount of brokerage commissions and taxes paid with such a strategy as opposed to
those paid with a buy-and-hold strategy. Some believe that the popularity of market timing
follows a cycle of its own. If the market is strongly up, market timing falls into disrepute,
and buying and holding is the popular strategy.
Ø Why Market Timing is Risky
Considerable research now suggests that the biggest risk of market timing is that
investors will not be in the market at critical times, thereby significantly reducing their
overall returns.

Rational Markets and Active Strategies

In a rational market, security prices accurately reflect investor expectations about future cash
flows. It is appropriate to consider this concept with any discussion of active strategies
designed to produce excess returns—that is, returns in excess of those commensurate with the
risk being taken.

The efficient market hypothesis, which states that current stock prices reflect information
quickly and without bias, has implications for all stock investors. Investors use the information
available to them in forming their expectations.
A Simple Strategy - The Coffeehouse Portfolio
An appropriate way to conclude about common stock strategies, given the evidence on efficient
markets and the difficulties involved in selecting stocks or timing the market, is to consider
one of the simplest of strategies an investor can follow. Short of simply investing 100 percent
of one’s money in one fund, one of the simplest strategies for investors to follow is the
“Coffeehouse Portfolio,” created by an ex-Smith Barney broker named Bill Schultheis. It
involves no trading, no rebalancing, no security analysis, and no strategizing.