Practical Applications of Oasis or Mirage: Assessing Low-Risk Investing from a Global Perspective

Practical Applications Summary

In Oasis or Mirage: Assessing Low-Risk Investing from a Global Perspective, in the Summer 2018 issue of The Journal of Investing, Edward Aw, John Jiang, Gregory Sivin (all of Bessemer Trust), and Aye Soe (of S&P Dow Jones Indices) discuss why low-risk strategies generally outperform market-cap-weighted indices. Such outperformance, the authors state, “gives rise to … low-risk anomalies” that contravene the assumption that a market-weighted portfolio is the optimal way to balance investment risk and return.

To verify the existence of a low-risk anomaly, the authors build a low-risk portfolio of stocks (LRPS) and a low-risk stock portfolio (LRSP), each designed to implement a low-volatility global equity strategy. The authors find that the two portfolios are equally effective in reducing realized volatility relative to a global market-cap-weighted benchmark but that their monthly excess returns over that benchmark are not statistically significant. However, by adding expected returns to the scheme for constructing the low-risk portfolios, the authors find that the modified portfolios outperform to a statistically significant degree.

TOPICS: Security analysis and valuation, equity portfolio management, risk management