Building active portfolios, building conviction levels

“Mispriced” is how a portfolio manager describes an asset whose market price today is different to their analysis of what fair price for that asset should be. There are numerous reasons why a market price today might not reflect the fair value of an asset; limited market knowledge, excessive focus on short term earnings; market dislocations and liquidity events and simply irrational investor behaviour can all be reasons an asset is mispriced. Where an asset has multiple indicators of being mispriced, the conviction of a portfolio manager lifts and this flows into how they build them into a portfolio of securities.

Portfolio construction

Creating an investment portfolio may seem intuitively simple – buy lots of the assets that are mispriced by being too cheap, and don’t own any of the ones that are too expensive. Lots of things people do in all walks of life can be described as simple, but not easy. As we dig deeper into the portfolio construction process we find we need to make trade-offs, primarily balancing the return we expect against the risks we are taking.

The team of Portfolio Managers and analysts at Octagon spend days (and sometimes nights!) trying to understand and value listed companies. A key objective is to improve the confidence, or conviction, in our views on each company’s valuation. It is that conviction in our view that finds its way into how the final portfolio is built.