We might fragmentize the diversification into two underlying causes. The first is capital preservation. Oftentimes, in investment management companies, according to their investment philosophy and prospectuses, preserving clients' capital comes first before attempting to yield positive risk-adjusting returns or delivering alpha through risky investments. It is in the nature of every investment, that, losing capital is always a possibility. And since there is risk in every investment, investors tend to turn to investment managers or companies, who would protect their capital as a priority. Only then we can talk about the second underlying cause of the diversification, which is to increase the possibilities of making money. Allocating capital tactically in symmetric or asymmetric proportions into more than one asset class, one increases it is chances to generate revenues in financial markets.

Inherently, there are both risk and reward in every investment activity. Generally speaking, where there is higher expected return, there tends to be more expected risk. Conversely, where there is less risk, there tends to be less expected return from that investment in that asset. This situation steers every investor into a trade-off between risk and return. There is a different risk and return character for every asset type. Along with the “risk appetite” of the investor, this risk and return profile dictates the investment activities of an investor.

We can depict the expected risk and reward spectrum from assets on a table to have a clear view on the situation.

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Figure 9. Risk/reward spectrum of major asset classes

Source: Compiled by the author based on the standard deviation data from PIMCO, Pacific Park Investment Management

Furthermore, in every time frame, there are different returns and losses for every asset class. It can be contextualized if we demonstrated how the asset classes behave differently over a period of time in equal periodicity.

Table 8

Annual asset class returns from 2008 to 2018

Source: Compiled by the author based on the data of (1) Standard's & Poor's 500 Index for large market capitalization stock returns “LCap”; (2) Russell 2000 Index for small market capitalization stock returns “SCap”; (3) Morgan Stanley Capital International Europe, Australasia and the Far East Index for International Developed Stocks “IntEq”; (4) Morgan Stanley Capital International Emerging Markets Index for stocks from emerging economies “EM'; (5) Barclay's US Aggregate Bond Index for bond returns “Bonds”; (6) iPath Bloomberg Commodity Index Total Return for return from commodities “Cmdty”; (7) FTSE NAREIT All Equity Index for the returns from real estate investment trusts “REIT”; (8) United States 3-Month Treasury Bill Rate for returns from short-term cash equivalent investments “Cash”.

The table is constructed from the most used benchmarks and indexes that mirror the relative performance of a given asset by tracking the price of a basket of stocks, bonds or equities from that asset class. When we examine the returns from traditional and major asset classes that are traded on high volume and a major portion of market participants all around the world, what stands out is, that the return from no asset class is consistent, and every asset class is entitled to return less and even negative returns that could expose the investor to capital losses.

Companies operating in financial markets do not necessarily have to carry out a multitude of investment strategies. They are utterly entitled to stick to even a single strategy in all situations, circumstances and asset classes. However, neither is this a prevalent practice, nor a lucrative approach. Due to several reasons abovementioned.

As usually stated in the industry, past performance is no guarantee and not indicative for future results. The numbers in the table are based on indexes that select a number of those assets and mirrors the average return from them as an indicative figure, meaning, that, returns may vary in different portfolios based on the exact investments in the portfolio. Furthermore, the numbers are annualized numbers, or they are calculated from the delta between the beginning of the year and the end of the year prices. Investors' portfolios may be subject to completely different returns according to their timing, as in, when they actually get in and get out of investments can substantially affect the performance of their returns on investments in either way. The returns in our table are indicative and just to lay out an idea as to what sort of a year it was for the major asset class.

Taken into account these dynamics of different assets yielding different returns, and they being correlated to each other up to some extent; it should now be more clear why the largest companies are having a multi-asset, multi-strategy approach over diversified portfolios, instead of concentrating and zeroing their focus in on a small number of factors. To both spread the potential risk between asset classes to reduce, and also to amplify the return, in the case that correlated asset classes would yield positive returns altogether on positive macroeconomic data and capital appreciation through positive global economic growth.

In short, investment management companies are both responsive to various characteristics of the securities they are going to invest in, and to risk and reward specifications of the assets that they have in their investment product portfolio. We have had a broad look at how some of the biggest investment management companies in the world operate within the parameters of the industry, and we have discovered that they do not limit themselves to utilization of a small number of strategies. Instead, they prefer to spread their allocation and exposure to a multitude of risk/reward characteristics and investment strategies. All three of the companies we have looked at can be classified as diversified and multi-strategy companies as they cannot be limited down to defining with one single strategy. They have a tendency to have a multi-strategy approach in order to exploit mispricing and inefficiencies in asset prices, opportunistic one-time events in financial markets also to benefit from both capital appreciation and depreciation of the assets by positioning their investments on the buy(long) and on the sell(short) side.

We are now going to discuss the meaning of this proposition, and how these findings relate to the theoretical foundations of what these companies do, in the third chapter.

3. Findings, Implications and Recommendations from the Study

3.1 Results and key take-aways of the study

The first thing we would like to point out is that, factors affecting and driving the investment strategies and decisions about utilizing an investment strategy come down to a number of things. Furthermore, just like the nature of international financial markets as we have discussed throughout the study, the factors are connected between each other as well.

In this study, we have inquired into a large number of companies from different parts of the investment management universe. Some of them were investment banks and investment management division of investment banks, some of them were hedge funds, open-ended (mutual) funds and exchange-traded funds, some of them were investment management companies that can be home to a lot of different funds at the same time, due to their large size. We also have selected and examined three of them in terms of their behaviors and parameters in which they operate in financial markets.

What draws attention as a common goal for all the companies seems to be two major purposes. The first one is to preserve the existing capital of their investors. The second one, after preserving the existing capital, is then to generate positive risk-adjusted returns on investment. Whether or not this return is directly correlated to overall market returns in a given time horizon, the first goal boils down not to incur losses on the existing capital, due to inflation, capital depreciation, and other risks that financial markets bear.

After defining the two major priorities of capital preservation and generating risk-adjusted returns on investments, we can talk about the role of diversification in this connection. Diversification can be linked to these two aspects as the underlying cause, or the end result. They seem to be having a unique interoperability between each other. The companies we looked at diversify in their investments, choice of investment strategies, asset types they prefer in an attempt to expand the focus of their exposure into asset classes. They also look to benefit from the nature of returns from assets that observably vary from one-time frame to another. They look to be as broad as they can in their spectrum of exposure at all times to both increase their chance to amplify their returns and also to reduce their chances to get hit by a single asset type in the case of a unique risk that happens to be affecting only a specific number of assets and the financial securities in that asset class.

As discussed in the study, historical returns of asset classes are not indicative of any future performance. However, it proves the variable nature of the return from different assets. And because of this variable nature of different historical returns from assets, investors are steered into finding different strategies via different ways, whether it might be trial and error, or it might be detailed and multifaceted qualitative and quantitative analyses, top-down and bottom-up approaches and so forth.

We also have discussed the tradeoff between the risk and reward from an investment. This brings us to another factor affecting the choice of an investment and the pertaining investment strategy that comes with it. The risk and reward profile of the financial security. Every market participant must clearly understand what type of risk they are agreeing to take and what type of return they are going to expect by taking any investment activity. And just like every asset has a different risk/reward profile, every investor also has a different risk and reward profile. This profile is comprised of how much risk-averse or risk-taking they are, and how much of a return they are willing to except and accept from an investment accordingly. This is sometimes referred as the “risk appetite”. Both risk profiles of the asset and the investor should match in order for the investor to take risk and invest in a security.

All three companies we have looked at in the study utilize a great number of investment strategies due to the reasons that we have discussed. Number of their clients and their demand have a substantial affect on the abundance of investments, since they have a lot of clients, it is necessary for them to have a large portion, if not all, of the strategies available for the clients. But also, the fact that they choose to allocate their investments the way they do, strengthens the findings of our study. The way they intentionally diversify in a multiple of investment strategies and asset classes to preserve their clients capital and increase their chances to be on the right side, if and when an asset classes returns will be higher relative to the return from others in a day, week, month or a year, they diversify to increase that chance.

Now that we have established the fact that investment companies draw on multiple strategies simultaneously in financial markets, we now can lay out and discuss not only the reasons explaining why this is happening, but also the factors affecting international investment strategies' choice of investment management firms, originated from the United States.

Throughout the study, we have discussed, presented and substantiated reasons as to why investment companies tend to deploy different investment strategies in financial markets.

The first reason, which is all the investment companies we looked at have in common, is the exploitation of inefficiencies and mispricing of assets and securities in financial markets. The fact that there are different ways, different markets and different time-horizons, in which those opportunities emerge and fade away explains why there are multiple strategies that draw from the same type of opportunities. This factor relates to the implementation of strategies such as Equity Long/Short, Fixed Income Arbitrage, Fixed Income Yield Arbitrage, Convertible Bond Arbitrage, Relative Value Arbitrage, Short Selling/Short Bias.

The second reason we revealed in examination of investment companies' operations in financial markets, is the exploitation of idiosyncratic, non-systemic, one-off events in financial markets. This factor relates to the implementation of strategies such as Distressed Securities, Merger Arbitrage, Activism Strategy, Opportunistic events and other types of Event-driven strategies.

Another reason we have discussed, is relatively more straightforward, and it is to attempt at profiting through capital appreciation or depreciation of the assets that the investment company bought or sold short based on their expectations, projections or various analyses.

Those reasons bring us to our first factor, affecting the choice of investment strategies by investment management firms, originated from the U.S.

Our first factor is the type of opportunity desired to be seized in the market. Different investment strategies in financial markets necessitate the investigation and discovery of different investment opportunities. Investment companies might tend to specialize in a particular type of opportunity and constantly looks to locate and exploit that type of investment opportunity. However, our study has shown, that big investment management companies, similar to ones in our study might also tend to keep as many options available as possible, to be able to increase their chances to find more investing and trading opportunities, and consequently, to make money. They also tend to look for a broad range of investment opportunities on account of the fact that they have a wide client base, which could demand the deployment of various strategies from the investment management company.

The second factor affecting the choice of investment strategy for investment management companies we came across, is to have the proper/correct asset allocation. In other words, buying and selling the right securities. This factor is highly correlated with the nature of asset class returns. As we have shown a 10-year period in returns of a broad range of assets, it can be inferred that the nature of returns is fairly variable. One asset class can yield quite a positive return one year, but it also can yield a negative return the next year. It should also be assumed, that we have examined the annual returns of assets. Returns vary in different time horizons, as in, a financial security can raise in price for half a year, and then the price can go down precipitously, due to weakening fundamental data, idiosyncratic events, and other variables that have a role in the process of affecting the price changes in financial securities. Investment strategies help investors and investment managers in their selection of the securities to buy and sell in their designated time horizon.

The third factor affecting the choice of investment strategies is the market timing. In other words, timing the allocations of investments to financial securities properly. This directly correlates with the third factor, but in this factor, the basic premise is not buying or selling the correct financial security, but to buy or sell a financial security at the right time. This factor is also linked to the nature of variable returns of financial assets. As we have mentioned throughout the study, the prices of financial securities move with a fluctuating course. The prices undulate between going up, going down or going sideways. It follows, that, buying the right security based on correct calculations, correct predictions and a correct bias at the wrong time can still yield negative returns. Consequently, it can be inferred that buying a financial security at the right time is as important as buying the right asset. Therefore, investors and investment companies utilize those strategies to properly time the market and buy or sell financial securities at the right time in order to yield positive returns and avoid negative returns on their investments.

The fourth factor comes from our examination of how investment companies behave and operate under parameters of different investment strategies. We mentioned in the study, that investment companies try to implement their methods and strategies in their investing and trading activities by taking two main desired outcomes into consideration, which are capital preservation and bringing risk-adjusted returns. The fourth factor comes into play here. It is diversification through the investment strategies. Different investment strategies demand and dictate the investor to employ variable risk management procedures. With every investment strategy, there are different types of risk management tools including fund allocations, position sizes, market timing procedures, fundamental and statistical analysis, computational methods. Diversification in investments plays a two-sided role in this context by increasing the number of asset classes or types of financial securities, that the investment company haves exposure in. These sides are risk and return, because they inherently exist in every investment.

On the risk side, diversifying the investments on a broad scale of assets and financial securities helps the investment company avoid concentrating the majority investments in a single asset class, so that in an event that would damage the price of the asset, the investment company does not get affected in an amplified way. Because their funds and investments are interspersed through different assets.

On the return side, diversifying the investments enables the investment company to enjoy the positive returns from as many asset classes or financial securities as possible. In case of overall positive macroeconomic data that would prop up the investor sentiment, overall risk appetite of the financial markets and prod the prices of correlated assets up across the board, diversifying creates a situation where the investment company will yield positive returns from a multitude of assets simultaneously.

Diversification resonates well within the reasoning of strategies such as Global Macro, Emerging Markets, International Equity related strategies, large-cap strategies, the conception of applying multi-strategy approach, the structure of fund of funds, sector-specific and region-specific strategies.

The fifth and the last factor we would like to mention in this paper, is the Risk/Reward profile of the investment management company. We have defined and referred to different types of assets in the study. We have also demonstrated that every asset class and every investor taking positions in financial securities tend to have a different risk and return profile. Investment companies might tend to be risk-averse and to look to invest in less risky assets. Conversely, they might have a “risk-on” outlook and a high “risk-appetite”, in other words, they might refer to riskier assets and look to take positions in shorter-term and riskier strategies. Risk/reward profile tends to be unique for every investment company and every client of theirs, however, it affects the process of selecting the proper/optimal investment strategy, asset classes, markets, geographies and even other driving factors mentioned above.

Our study also revealed results from the theoretical field, when we have examined the existing studies in the field.

First of all, our findings based on today's industry and practice contradicts to the findings of Fama (1970)'s work on efficient markets. We have revealed, that, even today, investment companies deploy strategies that aim to profit from mispricing and inefficiencies in asset prices in financial markets. That does not fit in the efficient markets hypothesis. Furthermore, Fama's propositions on efficiency of the dissemination of information does not apply to today's world, especially taking into consideration what companies operate with event-driven strategies, as we have showed, it requires special information that is not simultaneously and ubiquitously available for every market participant in financial markets. This is compatible with Grossman and Stiglitz's (1980) efforts trying to prove that inefficiencies exist, and information does not always disseminate in an effective and ideal way.

Our findings also comply with Markowitz's (1952) studies and how he defined the risk and profile in an investment activity. Indeed, international investment companies nowadays take into account the risk and reward profile of every investment decision before they execute it. This dynamic works on both sides of the investment activity. It consists of the risk/reward profile of the asset class or the financial security, also the risk and reward expectations and the “risk appetite” of the investing market participant.

3.2 Implications and Recommendations for Businesses and Investors

This study has real-life implication areas. The study is done to provide insight into the practical and the theoretical part of the industry so that the study can be read by people from both sides of the investment management.

There are several issues that were tried to convey for both sides. For the people from academic side of this sphere, it can be said, that even though theoretical foundations of investment go back a long way, the researchers still have not met on a common ground to find a comprehensive and single definition for investment and investment management. This sometimes creates misinterpretations and complications since the term investment is used in different areas of international business and finance as well.

The study shows, that this slight difference of opinion manifests itself not only in defining the concept of investment, but also in defining financial assets, asset classes, performance and comparison of investments. One recommendation that can be taken out from out study for scholars and researchers is to try to provide a universal definition for these terms and concepts. Even though it might not be too difficult for people from the industry to contradistinguish concepts from each other, it might cause misunderstandings for people who do not have a close relationship with the industry.

Another event that we saw in theoretical foundations of the investment management, was that, throughout the evolution of ideas, there has been ideas that were accepted by practitioners and scholars definitively and categorically for a relative long time. Just like in the case of Efficient Markets Hypothesis. The events in financial markets even now in the late 2010s disprove the basic premises of the theory. If markets were completely efficient, there would be no opportunities to make money with many of the investment strategies we have discussed in this study. Even though, Grossman and Stiglitz (1980) disproved the hypothesis of Fama (1970) a short time after it was published, both scholars and practitioners kept their bias towards the validity of the hypothesis for a long time. What we can extrapolate from this event and recommend scholars is not to have biases towards hypotheses in the academy and look at everything through a questioning scope.

As we have clearly defined that the evolution of new ideas and discussions on the theoretical side precipitated new developments on the practical side, having strong bias or preconception about the validity of a theory could easily stall the development of the industry.

As for investment management companies on the practical side, we have recommendations for them as well. The first endeavor we should make is to advise them to be up to speed in terms of the events and developments on the theory side of the industry. In all areas of finance and investments, there is a strong connection between the academy and the business side of the industry. We have seen that the theories lead the way and affect the way the companies behave in international financial markets, they have been positioning themselves and their behaviors in accordance with what theories show them, prove and disprove for them. Thus, keeping track of what is going on in the theoretical part of the industry is key for them to be able to have fresh, up-to-date ideas and products available for their investor clients, therefore, to be one step ahead of their industry rivals.

Investment management might be one of the few areas, where the academy and the industry are deeply connected and substantially important. They enable each other to grow and create new developments for the sake of one another. They are accompanying to each other.

Another advise for the industry would be a call for simplification of the nature of investing. Theorists and scholars tend to approach the issue in more detailed, complex and faceted ways when it comes to proving or disproving complex mathematical issues in the concept of investment, since it is directly related to mathematical finance, macroeconomy and microeconomy. This is not one of the main purposes of this study. We approached the issue in a way that it could be comprehensible without having a background in finance or economy, so that it can be read and understood by people from different backgrounds, and they can take away insights that can help them understand investing, trading and portfolio management better.

We also recommend the practitioners to have a similar approach in simplifying what is already complex enough for people from the sphere. Reducing the level of complexity in a way that laymen can simply understand could be more lucrative for the future of the industry. Assuming the growing nature of the world population, size of the global economy, size of the industry and the need for investing as additional sources of income and protection of capital from risks and depreciation; simplification of the processes, strategies, concepts and terms would be benefit for laymen and companies within the industry.

Alongside of scholars and practitioners, we have recommendations for individual and institutional investors who are clients to companies in the industry.

Even though the focus point of this study is examining investment management companies, their products and their means of activities in financial market; one does not need an investment company at their disposal to be able to invest their money with the hopes to generate revenues on their investments. It can be done without the assistance and advisory services of professionals. This is not to say that we anyhow suggest people to invest money in financial markets. Investing is risky and can lead to losses that are not desirable, for all intents and purposes. However, if one is to invest their capital in the markets after due consideration, it is important for them to understand the risk/reward profile that lie behind every investment. This is exactly why it is important for people investing their capital and assets in financial markets to have a broad understanding of the theory and practice, so they can distinguish what types of strategies and behaviors paid off, what did not. This would be a method for individual and institutional investors to figure out the behaviors of risk management and investment strategies that bring in positive returns and emulate those processes to try and replicate similar results on their own capital. To both generate revenues, and to preserve their capital from any substantial risk factor. Which are the two major aspects one should target in their investment endeavors by all available means.

Otherwise, without conducting enough research just like the large professional investment management companies do in financial markets, this process can be considered quite similar to gambling, without the proper risk management tools and a clear appreciation of the process, and this would create a situation, where undesirable losses in capital are inevitable.

3.3 Limitations of the current study, and the possible aspects of further research

There are some limitations for this study. Based on those limitations, we can extrapolate some areas that can be expounded on in the future continuation of this study.

First and foremost, due to the nature of this study, we should declare a financial disclaimer, in which we state, that the authors were not in any way affiliated or linked to any of the investment companies mentioned anywhere in this study. Consequently, neither the author, nor the academic supervisor is advocating any of the business activities done by any of the business entities in this study. Thus, in order not to incentivize any corporation or business in this study, and in order not to encourage anyone to entrust their money with the companies here in this research.

The point above restricted us to compare or rank the companies in this study in a way that it shows one of is more lucrative/better/profitable to the other and one should prefer investing in their services with their own capital and their life savings. As we have stated throughout the study, all investment activities contain some risk, and can lead to losses in capital. Every investment activity should be executed, just like the professional companies in this study do, only after the proper and necessary preparation processes and enough due diligence and consideration based on reliable macroeconomic and financial data, and proper measures of risk management and hedging against every known risk factor should be taken in order to generate risk-adjusted returns, and not to expose capital to risk without any protection.

Second, our study provided a detailed background as to how the theoretical aspects moved and changed itself over the course of several decades and how it all affected the real-life practice. We have shown more of the qualitative side of it than the quantitative side of it, partly due to the fact that this is more of a qualitative study than a quantitative study based on the author's preference. However, this also could be defined as a limitation. The mathematical demonstrations and reasoning of some of the theories and works in the first chapter is truly important for the development of the industry altogether. But as we have recommended the business professionals to simplify the processes for people from outside the industry and laymen, we were determined about doing so ourselves as well. Thus, we devote future studies to provide more detailed and advanced insights into computational methods and mathematical framework of the theories to completely build out the bridge of logical connection and reasoning between the theory and the practice. That also would be a sequel to this study.

This study exceeds the recommended boundaries of volume and size, therefore, is not within the frontiers of a usual paper. The justification comes down to several reasons for that. The first one is the nature of the study. In this study, we were to discuss the concept of investment and the management of the process of investment. As we have begun our first chapter, it was necessary to have clear distinctions to eliminate any academic misunderstandings between the concepts. We have started off laying out clear explanations, and the historical developments of the definitions of the concepts we have drawn on during the study.

In this study, we were interested in the purpose of revealing the factors driving any entity in to invest in financial markets and to utilize a systematic investment strategy in doing so. We have defined what sorts of investment strategies are utilized by investors, but we have not examined the investment strategies themselves in this study, due to the quantitative nature of such process as a limitation to this study. In the future studies, it can be further examined and expounded on how different investment strategies behave in various market conditions and time frames, thus, a ranking can be established. This can further the understanding in attempts to define “an ideal approach”, blending multiple strategies in a way that strategies would accompany each other in amplifying expected returns on investment and reducing downside risk. Multiple back-tests can be concluded in order to put the qualitative narrative into test and a quantitative framework to make the study more encompassing and multifaceted. This can also help us to generate even a new strategy that generates positive results in various timeframes, asset classes and markets. It would be contributing both the theoretical side and the practical side of the industry, if analyses and tests necessary were carried out in a scientific way.

Interviews and surveys are also an option for future studies. Interviews with professionals from the investment management companies mentioned in this study could be conducted to attain their opinions and insights into what business professionals consider when considering an investment strategy and the implementation of it. This way, we provide a comparative point of view to see if the professional approaches converge on with the theoretical reasoning and the way of thinking about the terms and conditions of utilizing an investment strategy.

Another prospective research area that the authors area interested in, is to find the degree of correlation and connection between the price of financial securities and the data, affecting the price of the price. If the sources of data, who the data is published by could be ascertained, the next step would be to find how the data steers the prices into upside, downside or sideways. What follows is to ascertain ways of interpretation of the data, projection of the future data, and ways of allocating funds and positioning investments in international financial markets to yield positive returns on investment through the additional instrumentality of fundamental, financial and technical analysis and proper risk management techniques. This would require more quantitative methods and deploying multiple correlation analyses and can be a sequel of this study. In other words, this study could be used as a basis for further research and further studies could be built on this study.

Conclusion