Opinion – Grain in Grain: Is it possible to win on the stock market in any scenario? find out how

It is difficult for investors to deal with the anxiety caused by the ups and downs of the market. Since November 2020, the Ibovespa has risen above 120,000 points and dropped below 110,000 points three times. Thus, the investor ends up frustrated, as he is left with only volatility and no return. But an investment strategy has differentiated itself in this scenario.

Currently, the Ibovespa is at the same level as in October 2019, the year before the pandemic. For two and a half years, investors who invest passively on the Ibovespa do not see any return.

Several active funds even managed to recover after the pandemic, but the rapid change in the economic scenario that occurred in the second half of 2021 and at the beginning of this year drained this advantage.

In this sense, investors question whether it is possible to have positive returns on the stock market in Brazil, even in volatile scenarios such as the ones we have witnessed. The answer is yes.

Despite this scenario of high market volatility and frequent changes in the scenario, an active stock market investment strategy stood out. The highlight was both in performance and in the risk measured by volatility.

In the last 12 months, while the Ibovespa dropped more than 6%, the strategy used by the DAO Multifactor resulted in an appreciation of more than 23%. His strategy managed to stand out even in this fateful month of April. In the last month, the Ibovespa has depreciated by more than 10%, but the DAO Multifactor has appreciated by more than 3%.

With regard to risk, in the last 12 months the volatility of the Ibovespa was almost 19% per year. While the volatility of the DAO was less than 10% per annum over the same period.

To understand more about this strategy, I interviewed the manager of DAO Capital, Fábio Mota.

Is it possible to really earn even when the market comes back to the same place every three or four months?

Yes, it’s possible. In fact, passively buying the stock exchange in Brazil is usually not a good idea. The environment of high interest rates and economic instability does not favor companies and, consequently, the stock market as a whole.

However, during all this time, it was possible to select stocks that had excellent performance and, in this way, compose a portfolio with a positive return, even with the stock market on the side or in decline.

In addition, it is possible to go short to take advantage of the fall in stocks. An investor who thinks a stock is going to go down can borrow it, paying a certain fee, sell the stock and then buy it back at a lower price. If the transaction is successful, he pockets the difference between the sale and purchase price, minus the cost of rent. This type of transaction is more common for professional investors because it carries some risks that individuals are not very familiar with.

Why are renowned equity fund managers suffering losses in the last twelve months while you have a positive result?

The market has been very difficult for active managers. In the last 12 months, we went through a pandemic, a drop in economic activity, high inflation, pre-election tension, high commodity prices and now the war in Ukraine. The stock market had a positive trend in the first half of last year, and this may have encouraged managers to position their funds more optimistically. Then came the downturn in the market in the 2nd half of the year and took ill-positioned funds.

Our fund uses a methodology called factor investing to identify cheap stocks, from good companies, with low volatility and with a positive price trend. This combination alone would have been enough for the fund to have a better result than the average in the period, because the companies that suffered the most were the most expensive and with weaker fundamentals.

In addition, our model allows us to increase or decrease the weight of each factor depending on its expected return. As of July last year, we have been more positioned in companies of higher quality and lower volatility, which explains the fact that we had a very positive return while the stock market suffered significant losses.

An important component of the fund’s return was the short position in the more expensive and lower quality companies. There were months of strong stock market decline in which the shares of our short end fell even further, giving the fund a profit and reducing risk.

What strategy can be used to circumvent this volatility and extract gains from the market?

There are some alternatives. The one we prefer is to have structural exposure to higher quality companies whose stocks are less volatile. In times of market euphoria, when lower quality stocks are rising sharply, this strategy may lag a bit. But most of the time, it manages to give good results and, very importantly, protects from relevant falls. It is always better to protect the portfolio from large losses, to enhance the so-called “composition effect”. Let me explain: if your portfolio drops 50%, it needs to go up 100% for you to recover what you lost. If it drops just 10%, you only need an 11.1% rise to get it back where it was.

You mentioned factors. What are factors?

Factors are the determinants of the return of any asset. These can be stocks, bonds, government bonds or real estate. Factors can be macroeconomic (foreign exchange, interest rates, country risk), fundamentalist (profitability, earnings growth, financial leverage) or technical (price trend, volatility, trading volume).

We have identified that the factors that best explain Brazilian equity returns are Value, Quality, Momentum and Low Volatility. That’s why we built the fund in such a way as to always have exposure to these factors.

Would an ordinary person be able to implement the same way of acting that you pursue?

Yes, but it’s challenging. THE factor investing is a methodology widely used in developed markets. The investor needs to have access to databases of financial information of companies and technical market data to select the factors and build the portfolio. What we bring out is a 100% systematic approach, a different way of exposing ourselves to factors, a more elaborate way of dosing the factors, and a strong risk control to build an optimized portfolio.

What are the three main lessons you could pass on to investors to better deal with this moment of greater volatility?

First: be patient. Investing is a marathon, not a 100 meter sprint. If you manage to build a portfolio that yields a little more than fixed income in real terms, you have a good chance of multiplying your equity in a sufficiently long term. If you keep buying and selling, trying to hit the bull’s-eye, you’re probably going to lose out on transaction costs.

Second: diversify. We must be humble and understand that the probability of becoming a Warren Buffett is low. Having a few genius ideas that work absurdly is for very few investors. And there is still the chance that you are very right on the bet, but wrong on the timing. It’s best to build a diversified portfolio of good companies that are trading below fair value, and read the first lesson again.

Third, don’t jeopardize a value that, if you lose, could cause stress for you or your family. The idea of ​​investing in risky assets is to build up wealth and increase your wealth in the long run, not to cause problems. Momentary losses will certainly happen, so it’s important that you manage to maintain your serenity in these more complicated times. And that’s only possible if you’re not losing money that you might need in the short term.

Michael Viriato is an investment advisor and founding partner of Investor’s House

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