Inside the Safe Haven smallcase

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What is factor investing?

A factor is a broad and persistent driver of stock returns. In the 1960’s William Sharpe and his friends introduced the Capital Asset Pricing Model (CAPM), to explain stock market returns.

The model states that the beta or returns of markets drive stock returns. So here market return is the factor.

Market beta is a measure of a security’s or investment’s sensitivity to movements in the overall market. Market beta expresses the degree to which an asset tends to move with the broad market. In this instance, market refers to a broad market index like Nifty 500.

Theoretically, a market portfolio consisting of all stocks (for example, the Motilal Oswal Nifty 500 Index Fund) has a beta of exactly one. A beta of more than one means that the asset has more risk than the overall market. A beta of less than one means it has less risk than the overall market.

While academicians and practitioners together have discovered more than 600 factors, only a few of them are worthy of investment. For a factor to be considered worthy of investment it must meet specific criteria. The table below explains why market beta is a valid factor :

Criteria	Explanation	Evidence
Persistent	The market beta factor holds across long periods of time and different economic regimes	In the US, market beta has consistently generated more returns or a premium compared to the standard benchmark – the return on the one-month U.S. Treasury bill (a “riskless” investment). Studies suggest that there is a 90% possibility of generating premium returns via market beta over a 10 year period. The factor was also able to generate positive risk adjusted returns.
Pervasive	The market beta factor holds across countries, regions, sectors, and in some cases even asset classes	In their 2016 publication “Equity Premia Around the World”, Elroy Dimson et al, confirmed that realized equity risk premium was substantial across 19 different countries.
Intuitive	There are logical risk-based or behavioral-based explanations for the factors premium and why it should continue to exist	The risk of owning equities is highly correlated with the risks of the economic cycle. Hence the average investor, who is usually risk averse, requires compensation for taking on this higher level of uncertainty and potential volatility.

Safe Haven smallcase

As clarified earlier, market beta or beta is a measure of a security’s or investment’s sensitivity to movements in the overall market. It expresses the degree to which an asset tends to move with the broad market. Beta measures the systematic risk of an investment, which is the risk that cannot be diversified away by holding a well-diversified portfolio.

The Safe Haven smallcase screens for companies that have low market beta. Such securities are less volatile than the overall market. In other words, the security tends to move to a lesser degree than the market as a whole. For example, if the market goes up by 10%, an investment with a beta of 0.8 would be expected to go up by around 8%.

Low beta stocks tend to be less volatile than the overall market. This means their price movements are relatively stable and do not fluctuate as much as high-beta stocks, making them more attractive to risk-averse investors.
Low-beta stocks are often considered more defensive during market downturns. When the overall market experiences significant declines, low-beta stocks hold up relatively better compared to high-beta stocks.
Including low-beta stocks in a diversified portfolio can help reduce overall portfolio risk. By combining assets with low and high beta, investors can create a balanced portfolio that can benefit from different market conditions. During periods of market turbulence, the low-beta stocks may act as a cushion, helping to offset losses from higher beta or more volatile investments.

The smallcase’s selection criteria also checks for favorability amongst institutional investors and brokers and promoters have not reduced their holdings in the company.

Disclaimer: Investment in the securities market are subject to market risks. Read all the related documents carefully before investing. Registration granted by SEBI, membership of BASL (in case of IAs) and certification from NISM in no way guarantee the performance of the intermediary or provide any assurance of returns to investors. The content in this article is for informational and educational purposes only and should not be construed as professional financial advice nor to be construed as an offer to buy /sell or the solicitation of an offer to buy/sell any security or financial products. Users must make their own investment decisions based on their specific investment objective and financial position and use such independent advisors as they believe necessary. Disclosures: bit.ly/sc-wc

Naveen K R

Senior Director, Windmill Capital | The content in this article is purely the author’s personal opinion and is for informational and educational purposes only. It should not be construed as professional financial advice and nor to be construed as an offer to buy /sell or the solicitation of an offer to buy / sell any security or financial products. The views and opinions stated in the content belong to the author. Windmill Capital Private Limited does not uphold nor promote any of the views / opinions. | Windmill Capital Private Limited is a SEBI registered research analyst (Regn. No. INH200007645)

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Investments in securities market are subject to market risks. Read all the related documents carefully before investing. Registration granted by SEBI, membership of BASL (in case of IAs) and certification from NISM in no way guarantee performance of the intermediary or provide any assurance of returns to investors. The examples and/or scurities quoted (if any) are for illustration only and are not recommendatory.

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