How do We Classify Investment Styles?

When an investor or fund manager selects investments for a portfolio, the method, philosophy, and risk awareness displayed during that process is called investment style. Investment styles can be classified into three dimensions: active and passive management, growth and value investing, and small-cap and large-cap companies.

Active and Passive Management

Actively managed funds are funds that attempt to outperform the average returns of the stock market through an aggressive stock-picking strategy. The fund managers of these funds believe that with their professional knowledge, professional experience, and resources, they can obtain information that ordinary investors are unable to get hold of. They also believe that they can outperform the index with their aggressive stock-picking strategy.Actively managed fund managers usually have their own professional team and usually charge higher fees.

Passively managed funds are funds that construct their own portfolio based entirely on market indices. The fund managers of these funds believe that the market is perfectly efficient. They believe that stock prices fully reflect all the information in the market. They do not believe in trying to make profits from predictions of future stock prices based on information. They believe that investing in a fully market-based index portfolio can yield higher long-term returns than an actively managed fund.

Growth and Value Investing

Growth investing focuses on emerging stocks with high growth potential. These stocks are often considered to be overvalued and have a high price-to-earnings ratio. They generally pay low dividends or none at all. The prices are also often volatile.

On the contrary, value investing favours stocks with lower valuations. These stocks are stable, less volatile, and often offer higher dividends.

Small-Cap or Large-Cap Companies

Investors who select stocks based on the size of the issuing company are investing based on their preference for investing in either small or large companies. The measurement of a company’s size is called market capitalisation and this refers to the number of shares a company has outstanding, multiplied by the share price.

Small-cap stocks are expected to bring higher returns as they have greater opportunities to grow, but small-cap stocks are usually more volatile and carry higher risks. On the other hand, large-cap companies tend to be more stable with lower risks and are expected to provide relatively stable long-term returns.[1]

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[1] Eric Fontinelle, 6 Investment Styles: Which Fits You? (August 20, 2019). Retrieved 9 February 2022, from https://www.investopedia.com/financial-edge/0410/6-investment-styles-which-fits-you.aspx