Two Tips For Making Security Selection a Little Easier
An investment portfolio can have many different characteristics that can impact the investor's overall results and returns.
A lot has been written on an academic level about the importance of asset mix and how it can account for more than 90% of a portfolio's total returns.
But this measurement is actually done in hindsight, meaning if a portfolio's returns are 15%, one can look back and blame or praise that performance on the actual asset mix.
In other words, one cannot proactive "choose" asset mix A over asset mix B because asset mix A will perform better...
this is simple impossible (we would all invest in asset mix A otherwise).
But one thing that can proactively impact a portfolio's returns is security selection.
In the famous study that brought light to the "asset mix can account for more than 90% of a portfolio's returns" it was estimated that 4.
6% of those same returns came down to security selection.
The unfortunate part with security selection, however, is that it involves a great deal of analysis and patience.
Given this fact, it is often easier to invest in a top performing mutual fund or a fund with enough history (management and performance) and potential (a not-so-popular fund).
However, for investors who are eager to find their own securities and invest on their own, these two factors are extremely important to know and particularly how they compare to other securities within the same category of securities.
1.
Beta.
This measurement lets an investor know how a security will behave compared to market movements.
A Beta of 1 tells an investor that the security itself will move 100% in line with the underlying market (or index), whereas a beta of 0.
8 tells an investor that security will move 80% in line with the market.
While Beta is not the be-all and end-all of security analysis, it gives an investor an idea of how risk that security is compared to the market and more importantly against other securities in that group (e.
g.
domestic real estate securities).
2.
Fundamental analysis.
This type of analysis involves reviewing the company's financial statements in depth and calculating key ratios such as debt-to-equity, profitability, inventory turns, etc..
While this kind of analysis tells a lot about a specific company, it means nothing on its own and needs to be compared to those same measurements at other companies that perform in the same sector.
Using Beta to forecast how a security might behave with given different market trends and then relying on fundamental analysis to find the companies with the best potential for gains is how to best handle security selection for your portfolio.
And, taking it one step farther, an investor can also rely on other tools like technical analysis, standard deviation, and so on to make extra sure the security not only makes sense as a long-term investment, but in the short-term as well.
A lot has been written on an academic level about the importance of asset mix and how it can account for more than 90% of a portfolio's total returns.
But this measurement is actually done in hindsight, meaning if a portfolio's returns are 15%, one can look back and blame or praise that performance on the actual asset mix.
In other words, one cannot proactive "choose" asset mix A over asset mix B because asset mix A will perform better...
this is simple impossible (we would all invest in asset mix A otherwise).
But one thing that can proactively impact a portfolio's returns is security selection.
In the famous study that brought light to the "asset mix can account for more than 90% of a portfolio's returns" it was estimated that 4.
6% of those same returns came down to security selection.
The unfortunate part with security selection, however, is that it involves a great deal of analysis and patience.
Given this fact, it is often easier to invest in a top performing mutual fund or a fund with enough history (management and performance) and potential (a not-so-popular fund).
However, for investors who are eager to find their own securities and invest on their own, these two factors are extremely important to know and particularly how they compare to other securities within the same category of securities.
1.
Beta.
This measurement lets an investor know how a security will behave compared to market movements.
A Beta of 1 tells an investor that the security itself will move 100% in line with the underlying market (or index), whereas a beta of 0.
8 tells an investor that security will move 80% in line with the market.
While Beta is not the be-all and end-all of security analysis, it gives an investor an idea of how risk that security is compared to the market and more importantly against other securities in that group (e.
g.
domestic real estate securities).
2.
Fundamental analysis.
This type of analysis involves reviewing the company's financial statements in depth and calculating key ratios such as debt-to-equity, profitability, inventory turns, etc..
While this kind of analysis tells a lot about a specific company, it means nothing on its own and needs to be compared to those same measurements at other companies that perform in the same sector.
Using Beta to forecast how a security might behave with given different market trends and then relying on fundamental analysis to find the companies with the best potential for gains is how to best handle security selection for your portfolio.
And, taking it one step farther, an investor can also rely on other tools like technical analysis, standard deviation, and so on to make extra sure the security not only makes sense as a long-term investment, but in the short-term as well.
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