De-risking your portfolio in a bear market (Part-I)

With the market having sold off by 50% over the last year, long-term investors now face a dilemma of sorts.

On the one hand is the view that valuations are now attractive and this is a great time to pile into the stocks of some of those companies you have been tracking for sometime now. On the other hand is the fear of a prolonged recession and markets remaining depressed (or worse, falling to new lows). Eitherways, you risk feeling like an idiot – “Damn, It was the buying opportunity of a lifetime and I missed out. My portfolio would have doubled in value if I had taken the plunge.” OR “What was I thinking? The whole world, from top hedge fund managers to the shoe-shine boy knew this crisis was getting worse”. At FourStocks, these are the issues we think about...all the time. And here we discuss how, as a serious investor, you can 'de-risk' your portfolio.

The biggest risk during a downturn is the risk of a broad market sell-off in spite of your stocks/companies performing better than their peer group or industry. Despite your good selection of stocks, you could still make a loss on your overall investment. For example, look at companies like BHARTI AIRTEL, L&T, INFOSYS and ONMOBILE. In spite of significantly outperforming their peers and decent income growth yoy, their stock price could not avoid a beating since Jan 2008.

So, what we need to do is remove the 'market risk' from your portfolio and retain only the 'outperformance' of your portfolio over the market. The tools to do this are using derivatives - futures or options. In this 3-part series, we discuss how to hedge portfolios with derivatives. In this article we will discuss the basics of portfolio hedging with futures. The next article will cover portfolio hedging with options and the final article will elaborate on issues like roll-over, rebalancing, taxation, brokerage and on bringing it all together.

Click here to read the first article of the series.

World indices - 2007-09 performance

Considering FII inflow/outflow creates the incremental volumes required to drive markets, its interesting to see how Indian indices' performance compares to other major world indices over last 2 years.

From the numbers below, it looks like Indian indices (NIFTY and SENSEX) lie in the middle of the pack, with the Brazilian Bovespa being the best performer and the FTSE being the worst (in currency adjusted terms)...

Click here to read full analysis and for index performance tables.

ANALYST SHORTS MORE PROFITABLE THAN LONGS?

On popular demand we have published the results of our analysis on whether analysts are more accurate when they say SELL as compared to when they say BUY. At fourstocks.com , we have tracked the performance of thirteen analysts (brokerages & banks) starting from Sep 2008.

Here is a summary of the results:

• Of the total 500 picks tracked, 78% are long picks and 22% are short picks.
• While the accuracy of longs is 31%, the accuracy of shorts is 67%. Accuracy is defined as % of picks outperforming (underperforming) the index divided by total number of long (short) picks
  
• An average short pick outperforms the index (NIFTY) by 9.5% while an average long picks underperforms the index by 9.8%.
• The results are not vastly different if we consider only the best six performing analysts.
• While it is too small a time period to call these results statistically significant (something with reasonable predictive power), it does provide us with a pointer for something we need to look at closely in the future.
  

The original post also discusses the implications of these results and our theories on why this bias exists. Read the full post at blogs on fourstocks.com