Portfolio Strategies in Bad Times

University essay from Handelshögskolan i Stockholm/Institutionen för finansiell ekonomi

Abstract: Institutional and private investors are being overwhelmed by information and theory. The difficulty lies in identifying what truly improves returns and reduces risk. In the midst of all this noise, the worry of an upcoming downturn following the recent years of strong market returns is brewing for the risk averse investors. This thesis attempts to address this by studying the cross-section of stock returns during historical bad times in Sweden. Attention is given to the performance of certain characteristics in the attempt of finding patterns for stocks that perform well in bad times and retain respectable returns in good times. Two portfolios are built on underlying factors of these characteristics, and thoroughly tested. The first is based on overall alpha performance while the second is based on alpha in bad times. Although the portfolios in fact perform well in bad times when tested in sample, they still underperform relative to the market portfolio. In addition to this, the results do not hold up when considering an out of sample robustness test conducted to evaluate the future predictability of the portfolio strategies. In fact, it does not seem possible to create portfolio strategies on the Swedish market that with confidence can perform well in bad times and in the long-term.

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