Competitive Advantage in Investing

Links theory and practice for investment professionals and portfolio managers, demonstrating why some portfolios consistently perform better than others

Investing well, like any other business, depends on competitive advantage. Some portfolios reliably generate greater returns than others because they simply are better positioned to benefit from strengths and avoid weaknesses. Building and using competitive advantage becomes central to the daily work of the best mutual funds, hedge funds, banks, insurers and virtually every other type of portfolio. But competitive advantage commonly is overlooked in most written work for investment professionals. The literature often varies between abstract formal treatments and pragmatic workbooks with little in between. Competitive Advantage in Investing fills the gap by integrating modern portfolio theory with actual practice in one comprehensive volume.

This innovative book guides investment professionals on building and sustaining competitive advantage and helps policymakers and researchers apply theory in a wide range of practical settings. Author Steven Abrahams—Senior Managing Director at Amherst Pierpont Securities and former Adjunct Professor of Finance and Economics at Columbia Business School—draws from his experience in both academic theory and real-life strategic investing to bridge the two worlds. This valuable resource:

• Connects the formal literature on investing to the actual work of most institutional portfolio managers
• Examines core strengths and weaknesses that drive portfolio behavior at mutual and hedge funds, banks and insurers, at other institutions and for individuals
• Demonstrates how linking portfolio theory and practice can increase competitive advantage
• Offers a robust description of investing, markets, and asset value

Competitive Advantage in Investing: Building Winning Professional Portfolios is a must-have book for any investment professional, policymaker, or researcher.

Preface ix

Acknowledgments xiii

Part I Theory 1

1 Welcome, Harry Markowitz 3

2 A Sharpe Line 17

3 The Counsel of Critics 27

4 Toward a New Capital Asset Pricing Model 35

5 The Local Capital Asset Pricing Model 41

6 Creating Competitive Advantage 53

7 Building a Portfolio on Competitive Advantage 65

Part II Practice 73

8 Investing for Total Return: Mutual Funds 75

9 Investing for Total Return: Hedge Funds 99

10 Investing for Banks, Thrifts, and Credit Unions 121

11 Investing for Property/Casualty and Life Insurers 159

12 Investing for Broker/Dealers 187

13 Investing for Real Estate Investment Trusts 203

14 Investing for Sovereign Wealth Funds 213

15 Investing for Individuals 229

Part III Markets 243

16 Turning the Tables: Investor Impact on Asset Values 245

References 255

About the Author 265

Index 267

Steven Abrahams is Senior Managing Director and Head of Investment Strategy at Amherst Pierpont Securities and former Adjunct Professor of Finance and Economics at Columbia Business School. He has spent 28 years as an investment strategist advising banks, insurers, mutual and hedge funds, and other institutional portfolios in the United States and abroad.

There are books on investment theory, and there are guides for practitioners. Somehow, the two rarely overlap, although investors have much to learn from both. The theoretical literature often focuses on the balance of risk, return, and diversification, as though there were nothing else influencing and constraining investor behavior. The practical literature then focuses on other things—the investment conventions of different markets, taxes and accounting, financing, and beyond—usually without acknowledging the important and valuable theoretical foundation that underlies investment success.

Competitive Advantage in Investing bridges the theoretical and practical strands of the investment literature, offering a treatment of risk, return, and diversification, as well as a new emphasis on the idea that portfolio performance depends on investors’ own strengths and weaknesses. Investors aware of their strengths and using them to find promising opportunities can build portfolios that are better poised to generate excess returns. With this book, investment professionals and researchers alike will gain a more complete understanding of what makes some portfolios perform better than others.

Author Steven Abrahams builds on the classic Capital Asset Pricing Model to develop a new and more robust investment framework—the Local Capital Asset Pricing Model. The Local CAPM incorporates competitive advantage and disadvantage, grounded in particular investment factors, into a model for valuing assets. Infusing real-world considerations into investment theory is a novel idea, and one that promises to explain the complex landscape of institutional investing more accurately than ever before. Theoreticians and professionals alike will benefit.

A guide for building and sustaining portfolios that generate excess returns

Bridging the theoretical and the practical, Competitive Advantage in Investing presents new insights on how investors use their unique strengths and weaknesses to identify investment opportunities that are likely unavailable to their competitors. Investing is a competitive business, and, like any other business, creating competitive advantage is key to success. When the theory of competitive advantage is integrated with classic models of risk, return, and diversification, the result is a powerful strategy for understanding market behavior and generating financial performance.

This book examines key factors that determine investors’ areas of advantage, including

• Ability to expand into new areas or respond to investment opportunity
• Opportunities to leverage, deleverage, or tailor the risk and return in existing assets
• Access to information, competitive accounting scenarios, and tax advantages
• Regulatory and political advantages

In practice, the highest performing portfolios specialize around their strengths. Until now, formal investment theory has ignored this market reality. This book is important for both academic and professional readers, showing why some portfolios consistently outperform others.

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