Here’s how I like to think of the components:
Pure Sector Allocation = How much value did the manager add (or destroy) by deviating his sector weights from the benchmark weights?
Within Sector Selection = How much value did the manager add (or destroy) by picking stocks in that particular sector?
Is there any way to describe Allocation/Selection Interaction without getting too technical (like the above examples)?
I think of the selection interation as a combo of the two above. The managers ability to correctly weight the sectors and pick the right stocks in those sectors at the same time. It’s not easy to generate positive value with this one unless you really nailed it
describes joint effect of pure sector selection and within sector selection and is a plug value, which is necessary to balance your value added return.
Allocation is the compounded effect of pure sector and within sector. If you pick the right stocks in the right sectors you win. The opposite is true for picking bad stocks in bad sectors.
It gets blurred when you pick winners in a losing sector and vice versa.
allocation section interaction = overweight an outperforming sector, or underweight an underperforming sector.