The top down approach to portfolio construction looks at the broad macroeconomic picture to identify trends in economic indicators such as the gross domestic product (GDP), inflation, interest rate movements and other factors to determine its impact on various sectors of the economy and identify investment opportunities.
At the next stage, companies in the sectors that are poised to benefit are evaluated carefully and selection is made for inclusion in the portfolio accordingly.
In the bottom up approach, the focus of the portfolio manager is to identify companies with strong fundamentals that have the potential to grow over time. The prospects of the sector and segment in which the company operates are then evaluated to validate the stock that has been selected. The idea is to identify stocks that have the strength to weather a downturn in the sector and still give good returns.
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