- Peaking growth, potential cost inflation, and the uncertainty over pandemic are all sources of heightened volatility in 2021.
- Goldman Sachs is looking beyond the US market high-quality stocks that will deliver returns but without unnecessary risk.
- We list the bank’s top 50 stocks with high Sharpe ratios across a booming Asian equity market.
- See more stories on Insider’s business page.
Balancing risk against return is an age-old problem for investors, but the Sharpe ratio tries to ease that burden.
The metric, first conceptualized by Nobel Prize winning economist William F. Sharpe, helps to identify the stocks expected to generate the highest profit without forcing investors to take unnecessary risks.
COVID variants, the economic impact of the pandemic and inflation worries are sources of uncertainty, meaning some investors are even keener to balance volatility and returns.
The S&P 500 and the Nasdaq are trading close to record highs. Most strategists, including those at Goldman Sachs, see the US equity market edging higher over the remainder of the year, but returns aren’t likely to be as generous as they were in the first half.
The S&P 500 has already gained nearly 17% this year, while the eurozone’s Stoxx50 is up by more than 15%. Japan’s benchmark index, the Nikkei, is up by just 4.2%, while China’s vast Shanghai Composite index is up a mere 1.6% and even Seoul’s exporter-heavy KOSPI is up 10%.
That is why Goldman Sachs has outlined a high Sharpe ratio strategy basket for Asian equities, which the bank says offer a bullish cocktail of low volatility and potential for high returns.
The basket features companies from across the region and focuses on various sectors including financials, industrials and materials.
“”We still expect decent equity performance in H2 but the path could be more volatile due to different macro concerns,” said a team of Goldman analysts led by Alvin So. “We think stocks with high historical & prospective Sharpe ratios would do well in a bumpy but positive market on a risk adjusted basis as they exhibit characteristics of low price volatility, positive price momentum and high potential returns.”
Goldman Sachs noted that peaking growth momentum, cost inflation, and tightening regulation all drive volatility for Asian equities. The uncertain geopolitical relationship between the US and China also creates risks for investors.
The basket’s hypothetical returns demonstrate these 50 stocks’ ability to weather those uncertainties. Goldman Sachs analysts “back-tested” their high- and low-Sharpe ratio baskets and found the listed stocks would have delivered a 10% return so far in 2021, and a 4.1% annual return since 2011.
To qualify for the strategy basket, stocks must have a market capitalization of above $1 billion and trade at more than $5 million daily. The bank also spread their stock picks across different regions and sectors.
Chinese companies account for 36% of the basket, or 18 of the 50 equities listed. Korean, Taiwanese, and Indian stocks also have a strong presence on the stock pick list, each accounting for 6 companies.
Financial institutions dominate the basket, making up 21 of the 50 stocks, with China’s $190 billion bank CCB the largest by market capitalization. Seven stocks are from the materials sector and six are industrials.
“All baskets are equal-weighted and market-neutral,” So’s team said. “To avoid strong industry bias, we restrict the maximum number of stocks within the same industry to make up less than half of the stocks within the same market.”
The 50 Asian stocks are listed below, along with their tickers, market capitalizations, and prospective Sharpe ratios.