Quantitative Equity Portfolio Management

Abstract

Equity portfolio management has evolved considerably since the 1950s. Portfolio theories and asset pricing models, in conjunction with new data sources and powerful computers, have revolutionized the way investors select stocks and create portfolios. Consequently, what was once mostly an art is increasingly becoming a science: Loose rules of thumb are being replaced by rigorous research and complex implementation. While greatly expanding the frontiers of finance, these advances have not necessarily made it any easier for portfolio managers to outperform the market. The two approaches to equity portfolio management are the traditional approach and the quantitative approach. Despite the contrasting of these two approaches by their advocates, they actually share many traits such as applying economic reasoning to identify a small set of key drivers of equity values, using observable data to quantify these key drivers, using expert judgment to develop ways to map these key drivers into the final stock-selection decision, and evaluating their performance over time. The difference in the two approaches is how they perform these tasks. Keywords: traditional approach; quantitative approach; signals; equilibrium expected returns; forecasting stock returns; factor risk model; forecasting transaction costs; tracking error; active return; information ratio; efficient portfolio; risk budget; optimized portfolio; rule-based portfolio