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Passive versus Active Portfolio Management. Review of Market Efficiency Anomalies Market Timing A theoretical model of active portfolio management (Treynor-Black) Quantitative Investment Management. Passive Management. Buy and Hold Indexation

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passive versus active portfolio management
Passive versus Active Portfolio Management
  • Review of Market Efficiency
  • Anomalies
  • Market Timing
  • A theoretical model of active portfolio management (Treynor-Black)
  • Quantitative Investment Management
passive management
Passive Management
  • Buy and Hold
  • Indexation
  • Active management must beat these strategies on a net risk adjusted return basis!
  • What if markets are efficient?
treynor black model
Treynor-Black Model
  • Suppose you can identify securities that you expect to outperform (or underperform) on a risk-adjusted basis
  • How do you exploit this model?
treynor black model assumptions
Treynor-Black Model: Assumptions
  • Analysts can only produce quality analysis on a small number of securities
  • There is a passive market portfolio (M)
  • Forecasts of return (E(rM) and risk (s) exist
  • Determine abnormal return (a) for analyzed securities
  • Find optimal weights of analyzed securities to create active component (A)
  • Combine A, M and risk-free asset to achieve efficiency
treynor black construction step 1
Treynor-Black: Construction (Step 1)
  • Assume: ri = rf + bi(rM - rf) + ei
  • For analyzed security k: rk = rf + bk(rM - rf) + ek + ak => estimate ak, bk, s2(ek)
  • To construct A: wk = (ak/s2(ek))/(S[ai/s2(ei)]) => determine aA, bA, s2(eA)
treynor black construction step 2
Treynor-Black: Construction (Step 2)
  • w0 = (aA/s2(eA))/[(E(rM)-rf)/s2M]
  • w* = w0/(1+(1-A)w0)
  • w0 is the proportion of A in the new, enhanced market portfolio (M‘)