Sector rotation A sector rotation strategy positions the portfolio to take

# Sector rotation a sector rotation strategy positions

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Sector rotation A sector rotation strategy positions the portfolio to take advantage of the market’s next move by shifting funds among different equity sectors and industries in an attempt to beat the market Style investing Forming portfolios based on various characteristics of the companies themselves. P/E ratio (price to earnings ratio) P/B ratio (price to book ratio) Dividends Market capitalizations Stock-picking Examines individual stock issues to buy low and sell high (attempts to find undervalued stocks). A situation in which an analyst or investor uses a systematic form of analysis to conclude that a particular stock will make a good investment and, therefore, should be added to his or her portfolio. The position can be either long or short and will depend on the analyst or investor's outlook for the particular stock's price. (b) Briefly explain two major responsibilities of portfolio managers in an efficient market environment Identify the risk/return objectives for the portfolio given the investor's constraints. Developing a well-diversified portfolio with the selected risk level. Reducing transaction costs with a buy-and-hold strategy (taxes liquidity cost Q6 (d) Show the following on a graph: (i)Where would Stocks A and B plot on the security market line (SML) if they were fairly valued using the capital asset pricing model (CAPM)? (ii)Where do Stocks A and B actually plot on the same graph according to the returns estimated by the analyst and shown in the table? (4 + 3 = 7 marks) (e) State whether Stocks A and B are undervalued or overvalued if the analyst uses the S ML for strategic investment decisions Security Market Line i. Fair-value plot. The following template shows, using the CAPM, the expected
return, ER, of Stock A and Stock B on the SML. The points are consistent with the following equations: ER on stock = Risk-free rate + Beta x (Market return – Risk-free rate) ER for A = 4.5% + 1.2(14.5% - 4.5%) = 16.5% ER for B = 4.5% + 0.8(14.5% - 4.5%) = 12.5% ii. E) Over vs. Undervalue Stock A is overvalued because it should provide a 16.5% return according to the CAPM whereas the analyst has estimated only a 16.0% return. Stock B is undervalued because it should provide a 12.5% return according to the CAPM whereas the analyst has estimated a 14% return. 2009S1 Q2
1) Without performing the calculations, one can see that the portfolio return would increase because: (1) Real estate has an expected return equal to that of stocks. (2) Its expected return is higher than the return on bonds. The addition of real estate would result in a reduction of risk because: (1) The standard deviation of real estate is less than that of both stocks and bonds. (2) The covariance of real estate with both stocks and bonds is negative. The addition of an asset class that is not perfectly correlated with existing assets will reduce variance. The fact that real estate has a negative covariance with the existing asset classes will reduce risk even more.

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