icmaniacs portfolio management project

7/28/2019 ICMAniacs Portfolio Management Project

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2013MarchThesisTeamObjectivesStrategyHoldingsRealized PerformanceKey ThemesFund FocusRisk FactorsInvestment Going ForwardPortfolio Sweet SpotSectors

Exit StrategyTrade ExecutionsStock PerformanceSector PerformanceA Word from the TeamBibliography InterimReport

UK Leveraged and DiversifiedLarge Cap Alpha Fund

The UK Leveraged Diversified Large Cap Alpha fund from the

sterling group of portfolio managers, The ICMAniacs, seeks to

achieve medium term capital growth through a sector diversi-

fied portfolio of UK-listed equities.

As managers we believe superior performance can be ascer-

tained through a combination of top down economic and sector

analysis, strategic asset allocation and highly focused security

selection.

We will be selecting companies listed on the UK stock ex-

change. As indicated by our analysis and screening, we will be

buying a variety of companies from various sectors of the FTSE

100, given this index makes up approximately 81% (FTSE, 2013) of

company value in the UK market , gives ample opportunity to

invest in firms with exposure to domestic and international mar-

kets. Smaller cap stocks offer more concentrated exposure to the

UK equity market, however due to this and their lack of liquid-

ity; they tend to be riskier investments than larger more estab-

lished companies, and for this reason we will only be investing

in large cap stocks for this fund.

Furthermore we aim to strike the perfect balance between keep-

ing low-costs and diversifying risk by having an optimum level

of portfolio concentration in context to the industry. The team

behind the fund have no particular allegiance to the ideas of

strong-form market efficiency, we believe markets trend and

exploitable seasonal anomalies continue to crop up.

As such we see opportunities for capital appreciation and mar-ket out-performance by segregating the portfolio between value

and growth stocks in liquid UK large cap equities. To eliminate

the risk of serious capital loss, we have utilised market timing

strategies as well as downside risk management.

RISKWe admit that markets in recent years have been increasingly correlated and driven by macro events, to manage such

systematic risk - we adjust our degree of market risk appetite accordingly through top down analysis.

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Our Investment Thesis


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Your Investment Team

George Cotton

Managing Director andPortfolio Manager

Luke Bailey

Quantitative Analyst

Victor Kerezov

Chief Economist

Nitesh Patel

Trade Execution

& Performance Analyst

Lewis Freeman

Risk Associate &

Strategic Analyst


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Objectives


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Strategy


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HoldingsThe Portfolio weights and number of shares held on February 14th at the Funds inception.

Our Portfolio uses a 20% gearing ratio, and the reasoning behind this decision, will be explained further on.

Performance of each stock in the portfolio between February 15th and 11th of March

Source: Google Finance


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-1.00%

-0.50%

0.00%

0.50%

1.00%

1.50%

2.00%

2.50%

3.00%

%Returnsinceinception

PerformancePortfolio

FTSE

Realised Performance

Portfolio Statistics Portfolio FTSE 100

Total Return 1.732 2.76

Standard Deviation (Ann) 18.42 15.58

Sharpe Ratio 4.00 6.14

Beta 1.12 1.00

Correlation 0.95

Bull Beta 1.55

Bear Beta 0.91

Jensen Alpha -0.6012

Information Ratio -1.84

Treynor Measure 0.66

Some notable occurrences in the fund over the observa-

tion period were:

IMI Plc, with an increase in share price of 13.18%. Dur-

ing the observation period IMI posted similar profits to

the previous year, but the engineering firm also an-nounced that it planned to buyback around 175 million

of its shares. (Wembridge, 2013) The early outcome of this was

an almost instant 3.25% profit on the releasing of this

news.

Another big winner in our portfolio was,

BAE Systems (BA), for similar reasons. The engineerin

firm also announced a share buyback plan of up to 1

billion. (Monagham, 2013) They also announced the largest ev

longevity insurance deal with another of our holdings,

Legal & General. The announcement was a pension plan

arranged to insure the firms current pensioners againstfinancial risk as they are living longer than expected,

covering around 2.7 billion of liabilities, leading to a

profit of 11.74% (Paton, 2013). Legal & General had several

other beneficial announcements that led its share price to

increase 11.10% during the observation period. During

this time it announced an extension of its existing rela-

tionship with Newcastle Building Society (Holweger, 2013) an

the announcement of its preliminary results for 2012,

announcing that their EPS rose 12% along with a full

year dividend growth of 20%.

The portfolios stock with the greatest absolute loss is

ENRC (Eurasian Natural Resources Corporation), with aloss of 14.29%. The basic materials sector was one of th

worst performing sectors in the FTSE 100 during the

observation period. We believe that this is due to the fal

in oil and other commodity prices during that time, for

which the basic materials sector proved to be quite

strongly correlated.

The next largest loss sustained by the fund was

Aviva Plc. with -11.07%. There are a couple fundament

reasons behind this loss. During the observation period

Aviva Plc. posted a loss after tax of around 3.1 billion,

after a 60 million profit last year. On the day of this

announcement the insurance firm then cut its final divi-

dend from 16p to 9p per share, a cut of 27%, meaning afall to 19p from 26p. This caused a dramatic stock value

drop downwards the following open which gave no op-

portunity to liquidate and the stock price failed to im-

prove or recover quickly following the drop. (Neligan, 2013)


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Key Theme: UK, Eurozone, and US

Growth

Looking at the Manufacturing PMI (Purchasing Man-

agers Index) as a measure of business confidence., and

a historically useful leading indicator. We can see

that:

The UK manufacturing sector saw an unexpected re-

bound in December 2012, the biggest pace of growth

since September 2011. This signals sold return to

growth for the manufacturing sectors, which has car-

ried on following through January and February, with

higher than expected growth in confidence. The PMI

is a known leading indicator as it shows confidence in

the market, and as such we are optimistic about the

UK economy going forward.

As for the Eurozones PMI, it has looked to havelargely bottomed out in the summer of 2012, and even

though it has yet to see growth in PMI like the UK and

US, it has at least stabilised and looks to slowly move

forward positively.

After the Great Recession many financial analysts

were expecting emerging markets to lead the world

economic recovery, but actually the USA economy

has experienced a strong improvement stimulated by

its unconventional monetary policy tools and huge

fiscal stimulus. The risks of inflation from the asset

purchases have actually been beard by the emerging

markets combined with their strengthening local cur-rencies, EM have lost a bit of their competitive advan-

tage. USA could be on the verge of a manufacturing

renaissance, and is likely to continue to be the driving

source of innovation and entrepreneurialism. US eq-

uities have become a de facto safe haven in the market

with the emerging markets slowdown and the Euro

zone debt crisis.

As of December 2012, the US achieved a 7 month

high in the Manufacturing PMI, reflecting a solid ex-

tended period of expansion. A reported increase in

new orders for 20% of firms, shows an accelerating

pace of growth which in turn following by approxi-

mately 12% of firms hired additional staff, which will

be explained shortly as to why this is a very positive

indicator for the future.

Source: Markit Economi


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Key Theme: US/EM Growth Contd.After the announcement of newest round of asset purchases in September 2012 named by the media QE infinity, the Federal

Reserve has said that interest rates will remain at a record low zero until mid 2015 or until the unemployment rate hits the 6.5%

target level (Davidson, 2012). With the recent improvement in the US labor market and if we extend the trend line of the unemploy-

ment level we suspect that the 6.5% unemployment level will be reached

before expectations. The Commodity Price Index is strongly positive cor-

related to the US 10 year yields and if interest rates start going up, infla-tion and commodities will pick up as well. We dont really expect that

China will enter into its own recession, because of the amount of tools

their policymakers have (currently their interest rate is at 6%). The Chi-

nese are becoming more liberal and want to develop their capital markets,

which will stimulate the growth in country and Asian continent. Emerging

markets have an expanding middle class and in the coming years their

GDP is going to be sustained by the rapidly growing consumption. That is

why we have decided to overweight the basic resources and healthcare

sectors, as growth in this sector will be good going forward as the wealth-

ier middle classes can afford more healthcare products and services.

A Map For The Road AheadThe below is an analogue study of the last 10 years of UK consumer confidence overlaid onto Japanese consumer confidence from

1986 onwards. This provides us with a compelling perspective of how consumer expectations have reacted in a similar environment

stimulated by the same economic shocks like a domestic housing bubble, a Financial crisis, a European currency crisis and a delever-

aging cycle. Consumer confidence is a leading economic indicator of the economy and socionomics proposes that social mood drives

financial, macroeconomic and political behaviour. In both periods the UK stock market traded in a narrow range that was followed by a

breakout to the upside in the early 90's interval. This gives us assurance in our strong bullish conjecture for the UK economy.


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Key Theme: Central Bank Policy

The Federal Reserve, the ECB, the BoJ and BoE are all using the same policy cookbook of unconventional accommodative monetary

tools. The major central banks are fighting the deflationary pressures through asset purchases (QE and open market operations), The

aim of which is to lower yields and lower debt-service costs, as well as indirectly putting downward pressure on the exchange rate

thus stimulating exports. These asset purchases raise the prices

of financial assets (Government debt and mortgage securities);as a result boosting financial wealth of the society with a com-

bination of lowering debt costs unconventional monetary pol-

icy actually increases consumption through the wealth effect.

Central banks have started to give forward guidance which

ensures interest rate expectations and price stability. As well

as quantitative easing central banks have used sterilized asset

purchases like the Operation Twist and Outright Monetary

Transactions that seek to further decrease long term yields.

The unprecedented monetary policy tools prevented the finan-

cial crisis to turn into a depression. Even though mass media

claims central banks have started currency wars that can resultin hyperinflation and another recession, the lessons from the

Great Depression are that the increase in the money supply

and the devaluation of currencies like the abolishment of the

gold standard stimulate growth and provide support for fi-

nancial markets. Recent hawkish statements from BoE governor Mark Carney recently sparked a sharp devaluation in the pound as

demonstrated above, this will likely be a boon to exporting firms in our large cap stock universe.

Key Theme: DeleveragingMany developed economies have been suf-

fering under the weight of a financial delev-

eraging at the private level as banks try to

shore up their balance sheets. The UK has

undergone significant reductions in house-

hold debt levels over the last 5 years, typi-

cally deleveraging cycles last 6 to 7 years.

The negative impact of this has been par-

tially absorbed by ever increasing public

deficits bridging the gap, in spite of at-

tempted deficit reduction policies .

GBP in USD between October 2012 to today. Source: Yahoo Finance

Source: BullionVault via BoW


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Markets have been trending up steadily for

almost 3 years, we have included an infla-

tion adjusted FTSE 100 as stock returnstypically lead inflation, but in the last 10

years they have lagged. Furthermore we

have firmly broken through this descending

trendline on the unadjusted FTSE, it is only

a matter of time before it is resolved to the

upside on this one as well.

On an even longer time frame if we ob-

serve the S&P 500, which often acts as a

proxy for equity markets around the globe,

we can see the index has moved sideways

for 13 years. It seems reasonable to suggest

we have been in a secular bear market

which could soon be coming to an end,

historically lasting 14.5 years.

Though equity mutual fund flows have

little predictive ability, they suggest that

market participants are far from being all-

in following the recent rally in equity mar-

kets, as was the case at these prices at the

2000 and 2007 tops. In fact funds were still

leaving equity mutual funds as recently as

December 2012.

We believe the strong market momentum

in January were symptomatic of cash

quickly leaving the sidelines and pushing

markets upwards.

Key Theme: Fund Flows and the

Secular and Cyclical Bull Market

Source: Ritholtz, 2013

Source: Investment Company Institute, 2013

Source: Yahoo Finance


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Potential Risk Factors

Potential UK downgrade

For the past couple of months UK government bonds have been slated to have a downgrade looming, resulting in the loss of its cov-

eted AAA credit rating. Due to the strength of the prediction we believe that any negative effect has already been discounted by the

market. Therefore if the downgrade were to occur during the investment period it wouldnt have an effect. Downgrades of other coun-

tries in the past have been seen to not be detrimental to the country involved, often causing a rally in the market. This prediction then

became reality on Friday 22ndFebruary, when Moodys downgraded the UK credit rating from Aaa to Aa1 (BBC, 2013).

Italian election

The Italian election is likely to cause higher market volatility around Europe. The actual effect on the markets will depend on the result

of the election. Markets would likely rally on the centre-right party to winning the election due to tighter fiscal policies and funding

reforms. We believe that the election, whatever the result, will cause a blip in the markets due to the uncertainty, but ultimat ely wont

have a noticeable effect on our portfolio (Fletcher, 2013).

UK triple dip recession

From forecasts on the UK economy made at the beginning of the year, the UK will likely avoid slipping into a triple-dip recession,

most forecasters believe that the UK economy will grow anywhere between 0.1%-0.3% in the first quarter of 2013. Along with this so

far in 2013 there has been a modest bull market. Both of these are positive indications of a recovery, although somewhat uncertain, and

a move away from a trip-dip in the UK (McBrides, 2013).

Investment Going Forward

In aggregate we believe the themes outlined earlier are positive for the equity markets and will enable opportunities for positive, infla-

tion beating returns for years to come. However it is as ever important to stay vigilant

Research has shown there is a positive impact on returns of being able to

accurately predict the timing of a recession. The table below for the S&P500 shows that in the past the ability to correctly time equity allocation

through the business cycle and predict a recession has a significant effect

on the return that can be made, when compared to buy and hold inves-

tors. It also shows that even if the timing isnt completely accurate, the

return that can be made still greatly exceeds the returns of those that buy

and hold. The recent announcement of the avoidance of a triple dip reces

sion in the UK, and the potential for growth in the future will ring posi-

tively in equity markets.

Our positive outlook for the UK economy has been a driving force in our

decision to leverage our market exposure upwards by 20%. We believe

we are currently in the middle of a bull market and taking advantage of

this was an opportunity we could not pass up.

Bank and other corporate balance sheets are visibly improving from deleveraging, as well as a reduction in tail risk thanks to hasty sov-

ereign debt bailouts, which allows for an excellent entry point into large cap UK equities .


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The Portfolio Sweet SpotThe ICMAniacs feel that a mix of shares which fulfil all three characteristics will provide superior risk adjusted re-

turns for the fund and its clients.

For finding equities with significant price momentum and growth we screened for stocks trading above their 200 day sim-

ple moving average and a track record of exemplary earnings per share growth. We used the 200 day moving average as it

has been empirically shown in Fabers academic paper A quantitative approach to asset allocation, to be a valid risk re-

duction technique with little adverse impact on return.

The remaining half of our equity allocation was

dedicated to stocks exhibiting solid value char-

acteristics. One of the screening measures for

value stocks we used price to cash flow as it is a

measurement of the financial health of a com-

pany and its liquidity. Price to cash flow is a

ratio preferred by value investors compared to

the P/E because it cannot be easily manipulated

by non-cash factors like depreciation. The priceto cash flow ratio is independent of the depre-

ciation metrics thus allowing investors to com-

pare companies without having to

deal with varying accounting prin-

ciples or earnings manipulation.

We ranked all the FTSE100 stocks

by P/CF and took the top 25 for

consideration. Historically the

stocks with the lowest price to cash

flow have significantly outper-formed the stocks with the highest

both by lower risk beard and higher

return earned over a medium term

investment. Using the top 25 P/CF

companies, we then looked at their

dividend yield and then took the

best combination of P/CF and DY

companies to form the value por-

tion of our portfolio.


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Sector DiversificationThe team felt it was best to utilise consensus analyst estimates compiled by Bloomberg of earnings and sales growth

for each sector as indicators of which industries were likely to outperform over the long run, and consequently which

ones should be over/under weighted. We concluded that both Telecommunications and Utilities where an unattractive

investment, with average EPS and Sale growth values of 0.13% and -2.60% re-

spectively. We felt there was insufficient evidence to prove that these sectorswould experience significant growth within our portfolio horizon and therefore

did not meet our investment strategy. Furthermore they have typically been de-

fensive sectors with a risk of government intervention, wherein rulings forcing

suppliers to give customers the cheapest possible tariff have been enacted.

Then the team computed by what degree each sectors average earnings and

growth was set to outperform the market, then over or underweighted accord-

ingly.

This is easily seen by comparing the earnings and sales growth table (left) to

the FTSE 100 sector weightings (lower left) in con-junction with our own portfolio weights.

All Securities 8.60%

Oil & Gas 7.64%

Basic Materials 11.68%

Industrials 8.72%

Consumer Goods 11.05%

Health Care 8.60%

Consumer Services 5.04%

Telecommunications 0.13%

Utilities -2.60%

Financials 9.34%

Technology 7.19%

Bloomberg Consensus sector earnings/sales

growth estimates for the next 3 years

OptimisationAside from ensuring the selected equities have differing performance profiles as characteristically value and growth stock

do, and are from a broad range of industries, the team used mean-variance optimisation techniques. Expected returns and

betas were derived from the CAPM. Market risk premium was estimated to be 4.76% and derived from current market

volatility indexes.


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Stock Weight

% Change

Needed

Admiral Group PLC 2.28% 22.72%

ARM Holdings PLC 0.97% 24.03%

Aviva PLC 7.61% 17.39%

Astrazeneca PLC 1.10% 23.90%

BAE Systems PLC 2.93% 22.07%

British American Tobacco PLC 5.10% 19.90%

BG Group PLC 2.50% 22.50%

BHP Billiton PLC 1.44% 23.56%

BP PLC 6.70% 18.30%

CRH PLC 1.28% 23.72%

Diageo PLC 2.90% 22.10%

ENRC PLC 2.72% 22.28%

EVRAZ PLC 1.49% 23.51%

GlaxoSmithKline PLC 3.91% 21.09%

IMI PLC 3.45% 21.55%

Legal & General Group PLC 8.03% 16.97%

Marks and Spencer Group PLC 2.32% 22.68%

Petrofac Ltd 3.24% 21.76%

Reckitt Benckiser Group PLC 2.72% 22.28%

Royal Dutch Shell PLC 6.72% 18.28%

Reed Elsevier PLC 2.47% 22.53%

Rio Tinto PLC 5.08% 19.92%

J.Sainsbury PLC 3.13% 21.87%

Schroders PLC 5.00% 20.00%

Smith & Nephew PLC 3.67% 21.33%

Tate & Lyle PLC 7.48% 17.52%

Vedanta Resources PLC 3.75% 21.25%

Our portfolio will be subject to semi-annual rebalancing

This table shows the loss required in any of the stocks

share prices for an immediate stock dump from the port-

folio, within the re-adjustment intervals. In the situation

that a stock is dropped then any recuperated funds will b

invested in cash until the next 6 month review, at which

the time any outstanding cash will be reallocated.

The method used to calculate these percentage changes

has taken into account the exposure we have in each

stock, so we are able to quantify the kind off losses the

portfolio is able to withstand depending on the exposure

the portfolio has to each individual stock. We feel this h

been achieved without running the risk of being stopped

out of a stock just through its day to day fluctuations and

will only close a position in a stock if it has entered a

serious downtrend.

There are many benefits to having a form of stop loss

included in our portfolio. Primarily they are a form of

preventing catastrophic losses. If a stock drops a certain

percentage below the price it was bought at then the stop

loss closes the position to prevent further losses, prevent

ing as much downside risk as possible.

With the inclusion of a stop loss the portfolio does not

need to be constantly monitored. This means that the

portfolio can follow a semi-annual rebalancing with the

knowledge that not one individual stocks loss will com-

promise the return of the entire portfolio.

Exit Strategy


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Trade Execution

For trade execution on the Stocktrak platform we utilised the historical studies of daily stock mar-

ket performance over the last 21 years, contained in this years Stock Traders Almanac. This is

predicated on the fact that stock market anomalies continue to exist (Latif et al, 2011). Since we were

constrained to execute in the two week period from February 1st to 15th, we chose to execute

when the market was historically likely to have a rough day and hit a low which happened to be

Market probability calendar base

on 21 year period from the Stock

Traders Almanac 2013, number

indicates proportion of times ma

closed up on the day

Source: Hirsch 2012

Then we further drilled down into the half hourly performance of the market indexes to find

the perfect execution point, 2:30pm seemed more appropriate than trying to navigate an open-

ing gap.

When considering the best times for best execution there is always the option to place a limit

order, so the position is taken out at the lowest hypothesised price over a period of time. The

decision was made not to place limit orders as there was only a two week window to execute

our trades, and any stocks that hadnt hit the limit order in that time would have had to beenbought on the final day of the execution period. The issue with this is that on the final day of

the period the stock could have been trading at a much higher price, making it difficult for that

stock to make a significant return. The team was very willing to pay for immediacy in this

case.

Date Jan Feb

1 H 71.4

2 66.7 S

3 66.7 S

4 47.6 52.4

5 S 42.9

6 S 52.4

7 52.4 52.4

8 33.3 42.9

9 52.4 S

10 52.4 S

11 52.4 57.7

12 S 57.1

13 S 61.9

14 52.4 38.1

15 61.9 66.7

43.4

47.648.1

51.551

50.4

49.2

5151.4

50

-49.3

50.851.2

52.9

Thursday

Half hourly performance probability graph, number indicates proportion of times mar-

ket moved higher in the following half an hour over a 21 year period of data

Source: Hirsch 2012


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quityPer

formance

Table


17/19S

ectorPerf

ormanceTable


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A final word from the team

George CottoManaging Director & Portfolio Manag

Though in this instance the portfolio underperformed our benchmark, we believe this was in part due to unforeseeable

problems with individual equities we were exposed to which our screens could not have foreseen. A broader base of

diversification would on paper have mitigated such losses, but factoring in commissions, tracking error and slippage

would have eaten away at any returns as well.

Luke BaileQuantitative Analy

Our sector weighting formula enabled us to be heavily exposed to industries with long term profit potential based on

consensus forecasts, however short term correlations with hard hit commodities meant our basic materials alloca-

tions suffered. The Optimisation procedure also led to overexposure to stocks with historically low volatility, which

became extremely volatile following fundamental announcements (Aviva).

Victor KerezoChief Economi

Our bullish conjecture regarding the improving macroeconomic fundamentals of the domestic and global economy

seem to be in the process of being realised and discounted in the rapid upward price movements of the last few

weeks. Cash appears to be leaving the sidelines and rotating out of overvalued bond markets as risk appetite im-

proves. This bodes well for equity markets in the near and intermediate term.

Nitesh PateTrade Execution & Performance Analy

Our execution procedure was effective in tactically allocating the portfolio in the short term, we managed to avoid

any severe drawdown in NAV over the performance period. An overview of our sector performance suggests we

missed out on a source of solid returns, the utilities and telecoms sectors, in spite of this exposure to any large

losses was still diversified away.

Lewis Freema

Risk Associate, Strategic Analy

My role within the team was split into two main purposes; firstly as the Portfolio Risk Associate I was responsible

for ensuring that all exposures contain a tolerable amount of risk to match our customers needs, this was a success

we kept the portfolio beta at 1.12, well below the target. Secondly as Strategic Analyst it was my role to ensure that

trade execution was completed at the most efficient hour within our trading dates, and that all trades are correct,

minimising the chance of slippage.


19/19

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news/business-21554311 (Accessed: 26 February 2013)

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http://www.telegraph.co.uk/finance/newsbysector/industry/defence/9886639/BAE-shrugs-off-revenue-fall-with-1bn-share-buyback.html


Neligan, M. (2013) Aviva slashes dividend to accelerate recovery planReuters, 7 March [Online] Available at: http://uk.reuters.com/

article/2013/03/07/uk-aviva-results-idUKBRE92608F20130307?type=companyNews (Accessed: 7 March 2013)

OShaunghnessy, J. (2011) What works on Wall Street. 4th edn. New York: McGraw Hill.

Paton, M. (2013) Legal & General Group Plc Lifts Dividend By 20% To Yield 4.7% The Motley Fool, 6 March [Online] Available at:

http://www.fool.co.uk/news/investing/company-comment/2013/03/06/legal-general-group-plc-lifts-dividend-by-20-to-yi.aspx (Accessed:

8 March 2013)

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cms/s/0/4aa4d0a8-871d-11e2-bde6-00144feabdc0.html#axzz2NoanbkKH (Accessed: 12 March 2013)

icmaniacs portfolio management project

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