Before you entrust your hard earned savings to a fund manager, it’s a good idea to find out whether their investment style and strategy complements your risk-reward profile. While no two fund managers are identical, most draw from the same basic styles, plus a core range of strategies – which will determine how their investment decisions propose to generate expected returns.
For starters, passive fund managers focus on tracking a specific index – while their active counterparts try to “outperform” an index according to a predetermined mandate. But remember, it’s possible for a fund tracking a growth index to outperform an active fund manager that’s mandated to outperform the overall market.
Some fund managers are what’s called ‘style-neutral’ – with neither a bias towards growth nor value. Whereas others choose to smooth out their returns and style-risk by outsourcing the investment management of particular asset classes to investment managers, and they’re known to take what’s called a ‘multi-manager’ approach.
Here’s a snapshot of the world’s most common investment strategies to help you better differentiate between the myriad managed funds on offer.
Top-down or bottom-up investing
A top-down investing strategy is characterised by fund managers that use big-picture investment themes to screen for stocks to invest in. By focussing on certain sectors like industrials, technology, health care and consumer staples or emerging markets, fund managers try to capitalise on favourable dynamics playing out within an economic cycle.
But regardless of what’s happening in the broader economy, bottom-up fund managers by comparison draw on thorough company research using fundamental analysis to make individual stock selections. While some fund managers may focus exclusively on top-down or bottom-up investment strategies, many draw on a combination of both.
Fundamental or technical analysis
Fundamental analysis means scrutinising a company’s management, markets and the drivers of potential growth over time, while also measuring its financial statements using key ratios, like price to earnings (P/E), return on equity (ROE), net debt to equity and other performance measures.
By comparison, technical analysis (aka charting) focuses on historical trading patterns to try and predict the direction of future share price movements.
While most fund managers’ focus mainly on company fundamentals, some will also combine technical data to second guess what their analysis is telling them.
Value, income & growth
By focusing on value more than price, contrarian fund managers often act counter to the broader market, and as such are more capable of capitalising on abnormally volatile markets. That typically means buying assets that are underpriced relative to their full or intrinsic – the sum total of the businesses worth based on earnings, dividends, equity and debt – while the rest of the market is selling.
Quality stocks that are under-priced – relative to their intrinsic value – are often called ‘value plays’ that sometimes surface due to one-off events or unusual market conditions. While these events may have no material impact on a company’s fundamentals, its share price can be dragged down by negative market sentiment dished out to the broader sector.
It’s true, ‘momentum’ investors play a similar game, however because they’re focussing more on price than a company’s fundamentals, they risk riding the price up too far and not exiting before it falls. By comparison, value investors who understand that price and value inevitably converge know exactly when to lock-in profits and sell before value plays turn into value-traps.
Value investors typically buy ‘value plays’ in the expectation that the gap between share price and intrinsic value will at some future point converge. Value-based fund managers are by definition growth investors, as they rely on intrinsic value to remain on an upward trajectory, and will contemplate selling or locking in gains once the share price starts to seriously exceed value.
By comparison, more risk-averse investors, especially retirees look to income fund managers to smooth out share market volatility. While their investment strategies are anchored around assets offering regular passive income streams – including fixed income, property, and dividends from companies with a sustainable record of high quality earnings – income fund managers also provide long-term capital growth.
If you want to learn more about fine tuning your investment strategy contact Delta Financial Group on 02 9929 3343 or email us on [email protected]