Stock market volatility since the global credit crisis has scared many investors away, leaving some struggling to generate growth and returns. There is a way to be invested in stocks that can help mitigate volatility: Employ an investment strategy that seeks to take advantage of global stock market inefficiencies to profit in both up and down markets. We believe investors should consider a long/short equity strategy to help reduce volatility.
What do you mean by a long/short strategy?
A long/short equity investment strategy means that we buy (long) stocks that we believe will appreciate in price, and at the same time sell (short) borrowed stocks we believe will go down in price. The intention of shorting is to buy the same stocks back at a future date for a lower price, profiting from the difference. Whether markets are rising or falling, this kind of portfolio strategy is designed to profit from stocks that go up and down, providing results that are different from traditional US and international equity markets.
By matching both long and short equity positions, we have the ability to dial up or down our exposure to market risk from 0% ("market neutral") up to 40% exposure.
Investors should note that long/short strategies present the possibility of significant or total losses, and that the long and short strategies may not perform, potentially adding to volatility and losses.
What are the benefits of this approach?
A key benefit is the increased number of opportunities available to us. In so doing, we are able to pinpoint precisely the companies we believe will perform well, even if we don't favor the industry they participate in. It's that herd mentality that we're working to defend against.
You suggest developed stock markets are inefficient. How?
Inefficiencies exist in every market. Conventional wisdom is that developed stock markets efficiently and quickly price stocks based on fundamentals. The reality is that pricing inefficiencies occur all the time; they just don't stay around for very long in developed stock markets. But opportunities exist-frequently when the connections aren't obvious or direct. So investors must find ways to enhance their understanding of the fundamentals and relationships surrounding companies to uncover those opportunities and stay ahead.
What advantages do you have to capture these opportunities?
Information is our advantage: Specifically our tools for accessing it, consuming it and analyzing it. Our access to information relies on cutting edge infrastructure to compile vast amounts of obvious and less obvious sources of publicly available information. In fact, we consume a massive amount of data from more than 25 countries, with a storage capacity four times the Library of Congress and eight times the size of Wikipedia. We take that vast quantity of publicly available information and filter and identify relevant pieces.
The numbers are big-new information is mapped to more than 1.7 million entities and 100 million connections- but it is how we synthesize it that is a key advantage. We analyze and interpret this vast array of data to provide daily rankings and updates on the more than 2,500 companies we follow, to make high conviction investment decisions.
Can you give us an example?
One example is a case in which we tried to take advantage of the reviving housing market. We were interested in a less-obvious company that could present a stock buying opportunity. In this case, we relied on a map of relationships we built to understand the housing industry. Our mapping system led us to the less-obvious opportunity, but one that is central to a housing rebound: a company that produces titanium dioxide. Housing? Yes-titanium dioxide is primarily used to improve the whiteness of paint.
Can you describe your team's investment process?
Our investment process is based upon a systematic application of our research based on three buckets: earnings quality, sentiment and relative valuation. Combining these factors offers us a comprehensive view of how likely it is that a given stock is going to outperform (or underperform) its peers over the next three to 12 months.
Raffaele Savi, managing director, is responsible for BlackRock's developed market equity strategies within Black-Rock's Scientific Active Equity Group. Kevin Franklin, managing director, and Paul Ebner, director, are both portfolio managers and members of the group.