Book Review: Market Neutral Investing
Market Neutral Investing: Build Consistent Low-Risk Profits by Creating Your Own Hedged Portfolio by Eric Stokes is a very quick read. It claims to introduce the reader to a market strategy which will allow profits in “any type of market – bull, bear, or sideways” and teach the reader how to manage the three major types of portfolio risk – company, sector and market. The book, as many investing books are, is written in a rather colloquial and genial way and is clearly authored with the beginning investor in mind.
That being said, I’m not sure that market neutral investing is necessarily an appropriate subject to introduce to the beginning investor as shorting is not an entirely accessible technique nor is it a readily used technique for an inexperienced investor even when it is used as part of a hedging strategy. Furthermore, this particular book’s approach to teaching the principles of market neutral investing was cursory at best. I admit, market neutral investing is an intuitively simple approach to building a portfolio. Basically, the idea is to build a portfolio which is either equally balanced by positions or dollars invested in the long and short side of the portfolio. Such a portfolio theoretically should have no correlation to the way the market moves.
To tell the truth, Eric Stokes, the author of this book, does not go much further than this in his explanation of a market neutral strategy. Outside of describing “beta” as a “fancy word for risk,” the book never really addresses the statistical reasoning behind market neutral investing or hedging in general. Instead, it uses only general and qualitative rationale as support for its claims. This gets increasingly less satisfactory as the author attempts to continue this style to describe why it is that a market neutral investing strategy handles risk better than other portfolio allocation strategies. Again, while I admit that the reasoning is both intuitive and simple and that I don’t disagree with his general stance on the topic, I just feel that an important topic such as risk management should be dealt with in a more serious manner even if it does make the book harder to read.
After spending a few short chapters on describing market neutral investing, the rest of the book is dominated by a few disparate parts. First, several chapters are devoted to describing a very quick stock selection strategy which the author claims will allow the reader to put together a strong market neutral portfolio. It is essentially a simple price-ratio based stock screen for which one buys those stocks which are relatively inexpensive are bought long and those stocks which are relatively expensive are sold short. The idea behind this is that if each side is properly diversified, then the longs will outperform the shorts in a bull market and the shorts will underperform the longs in a bear market allowing the practioner to profit in any market. Does it work? Well, the author provides some historical support by examining the strategy’s performance in 2002 and 2003. He states that he believes that, since 2002 and 2003 were representative of a serious bear and bull market, this is enough to demonstrate the value of his strategy. I would have preferred that he provided just a little bit more historical support for his theory.
Finally, the parts of the book after all this seem a bit as though they were written as filler for the length that was agreed upon in his book contract. For those intrigued by market neutral investing, he provides a chapter introducing hedged and market neutral mutual funds that one could invest in. And, goes on in a rather interesting but practically useless chapter on the history of hedge funds and the rise in popularity of long-short strategies especially that of market neutral strategies.
Is this book worth the read? For those interested in some of the strategies that are being employed today by oft-hyped hedge funds and looking for an introduction to the world of risk management through portfolio allocation, this book provides a decent jumping off point. It is quick, relatively informative and provides a good summary of avenues that one might want to delve further into. It should not, however, be the only book you read on the subject and I am still skeptical as to the value of the stock selection strategy the author presents in the book.
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