Alpha Thesis

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Markets may efficiently price stocks based on consensus estimates, but those estimates are consistently incorrect due to human nature and market structure. Diligent investors can more accurately forecast short and medium-term earnings to capitalize on this inefficiency.

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Our Beliefs

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• Stock selection is the best source of excess return. 

• A focus on high quality businesses with attractive valuations minimizes forecasting errors and enhances returns.

• Quantitative tools are valuable, high impact first step to narrow the broad stock universe down to an attractive subset, and provide objective inputs throughout the process.

• Qualitative company analysis is a crucial and dominant part of an investment process seeking a differentiated view.

• Portfolios need to be diversified enough to deliver return characteristics that correlate to clients’ mandates and concentrated enough to be able to generate meaningful excess returns.

Research and Decision Making

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Stock Selection

Stock selection is the primary alpha driver for Redwood portfolios.  We use a fully proprietary and dynamic, multi-factor, quantitative model to rank each stock in the investment universe.  The investment team then concentrates qualitative research on the stocks ranked highest in the model as companies with these characteristics have historically outperformed the universe.  The team’s research focuses on identifying and understanding the critical variables and the catalysts that generate outperformance.  Each investment must have the following characteristics: a Redwood earnings forecast that exceeds that of the earnings consensus estimate and a stock that has strong fundamentals, an attractive valuation, and high quality characteristics.

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Portfolio Construction

Portfolio construction is the combination of selecting high conviction stocks with the desire to control absolute and relative risk - an important component to generating consistent returns. Our goal is to be optimally diversified – which means concentrated enough to provide the opportunity to generate meaningful excess returns, while being diversified enough to deliver returns which correlate to the return expectations our client’s assumed in making this allocation.  We are aware of the benchmark and are sensitive to significant relative under and over-weights, however, we never own neutral conviction stocks simply to control benchmark risk.

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Sell Discipline

The Investment Team continuously monitors the fundamental characteristics of all holdings as well as its ranking within our quantitative model.  If the quantitative rank deteriorates, or questions develop about the fundamentals, the stock is placed on a “watch list” for intensive scrutiny.  Redwood sells stocks primarily for two reasons: First, a deterioration of a stock's ranking confirmed by qualitative research. This can be caused by: earnings disappointments or unattractive valuation.  Second, when our research uncovers company specific warning signs that could cause underperformance. Examples include: deviation from business strategy, senior management turnover, change in competitive position, and legal and ethical breaches.

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