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Style momentum within the S&P-500 index
Abstract
Investors may be able to benefit from equity style management. We find that three company characteristics—market value of equity, book-to-market ratio, and dividend yield-capture style-related trends in equity returns. We study all firms in the Standard and Poor's-500 index since 1976. Strategies that buy stocks with characteristics that are currently in favor (past winners) and that sell stocks with characteristics that are out-of-favor (past losers) perform well for periods up to 1 year and possibly longer. Style momentum in equity returns is an empirical phenomenon that is distinct from price and industry momentum.
... These mixed results could be due to different sample periods, sample selections (e.g., coverage of the SHSE only or of both the SHSE and the SZSE; inclusion or exclusion of penny stocks and/or financials), and/or research designs (e.g., the varying ranking and holding periods; an interval between the ranking and holding periods or not; equal-or value-weighted style portfolios; monthly, weekly, or daily frequencies). Chen and De Bondt (2004) extend price momentum strategies to portfoliobased momentum strategies in style context. 5 They examine style momentum strategies within the Standard & Poor's (S&P) 500 index over the period January 1976 to December 2000, using a simple trading rule based on past returns and firm characteristics. ...
... 5 They examine style momentum strategies within the Standard & Poor's (S&P) 500 index over the period January 1976 to December 2000, using a simple trading rule based on past returns and firm characteristics. Specifically, Chen and De Bondt (2004) first categorize the constituents of the S&P 500 index into three classes along size, value/growth, and dividend yield, and then rank the obtained style portfolios by their past 3-to 12-month returns. They report that style momentum strategies that buy the best performing (winner) style portfolios and sell the worst performing (loser) style portfolios make significant profits in the following three to 12 months (see, also, Chen 2003; Wang and Wu 2011). ...
... indicate that style momentum in general has state-dependent preferences in the global markets. Specifically, style momentum strategies generate significantly positive average returns following the rising markets and insignificantly negative average returns following the declining markets, which mirrors the impact of market states on price momentum profits (see, also, Chen and De Bondt 2004;Cooper et al. 2004). Accordingly, we develop the following hypothesis: ...
This study conducts a comprehensive investigation into style momentum
strategies––the combination of price momentum strategies based on previous mediumterm returns and style investing in terms of firm characteristics––in the China stock
market over the period 1994 to 2017. Although we do not find style momentum profits
over the first sub-period 1994 to 2006, strong evidence shows that style momentum
strategies are profitable over the second sub-period 2007 to 2017, even after
controlling for trading costs and various market and firm-specific risks. Importantly, the
observed style momentum in the second sub-period is distinguished from price
momentum and industry momentum but could be attributed to the improved
institutional settings in recent years. Specifically, the fast growth of institutional
investors since 2006, along with the introduction of margin trading and short sales in
2010, provides style switchers with more efficient investment vehicles to trade an entire
style in the China stock market. Finally, we find that style profits exhibit momentum in a
cyclical nature; in particular, style momentum profits are negatively related to market
states, implying that it is likely for institutional investors to make profits by constructing
style momentum strategies when stock market experiences a major decline.
... This suggests that the act of categorisation alone is enough to alter returns. In a paper relevant to our own results, Chen and De Bondt (2004) report that style portfolios of US funds exhibit momentum related to market cycles. As an interesting and rather telling counter-point, Chan et al. (2009) undertake an analysis of fund style performance techniques (characteristics versus returns) that specifically excludes momentum on the grounds that it is not a style on which fund manage performance is assessed (institutional clients, they argue, benchmark to passive indices). ...
... We look to the macro-economy for an explanation and test specifically for the impact of style cycles. There is some evidence for this in relation to Chen and De Bondt (2004), but there is no work, to our knowledge, that additionally places style shifting in the context of momentum and past poor performance as the underlying dynamic for style 'management'. Importantly, we link this specifically to the debate concerning evaluations of superior information by hypothesising that alpha values derived from the Carhart (1997) 4F model and market state combine to determine fund switching. ...
... We look in this section to ascertain what then might be the style of choice when funds perform badly and have to rotate. An appropriate clue is provided in Chen and De Bondt (2004) who examine all firms within the S&P-500 index between 1976 and 2000 and provide evidence of style momentum in a cyclical framework. They find that stocks with characteristics that are currently in favour outperform stocks with characteristics that are currently out of favour. ...
We investigate the investment style positioning of UK equity unit trusts (mutual funds) over the 24-year period from 1987 to 2010 and assess if fund manager claims to follow a particular style strategy are evidenced in practice. Generally, UK unit trusts do not, in fact, consistently track declared styles but subject their funds to style switching or rotation. Nor do funds switch to become simple index trackers, as has widely been reported, but exhibit a mix of behaviour that we refer to as 'market-momentum styling'. Our contribution is to offer a coherent, end-to-end picture of the evolution of investment styles over an economic cycle. In so doing we evidence that fund style positioning is subject to rotation and becomes subordinated to past portfolio performance or style momentum. Even this result is conditional as we go on to demonstrate that style investment is very likely to be driven by broader economic conditions, thereby creating market-momentum styling by default. This is arguably not a style at all and calls into question the intent behind fund 'strategies'.
... The approach of Conrad and Yavuz (2017) seems to be related to the style momentum of Chen and DeBondt (2004) who propose a strategy that goes long in firms with in-favor styles, e.g., being small value stocks, and short in firms with out-of-favor styles, e.g., being large growth stocks, based on the past price performance of these style characteristics. However, there exist clear differences. ...
... However, there exist clear differences. First, Chen and DeBondt (2004) document in their study that style momentum is distinct from pure price momentum by showing that both strategies possess unique information about subsequent stock returns that is not captured by the other strategy. Second, though the MAX and MIN strategies also take into account firm size and book-to-market in the selection of winners and losers, the focus of these strategies is on using these characteristics as risk measures for separating high-risk from low-risk momentum stocks. ...
... In contrast, the long-and short-leg portfolios of style momentum strategies can potentially also consist of mid-cap blend-style stocks or non-dividend-paying stocks, which are not in the center of attention of the MAX and MIN strategies. Third and finally, while the motivation of Chen and DeBondt (2004) is the improvement of style rotation strategies with respect to firm size and value/growth, the MAX and MIN strategies are motivated by the idea that momentum can be separated from reversal for constructing enhanced momentum-based investment strategies. ...
Taking into account expected return characteristics like firm size and book-to-market in the selection of winners and losers helps to ex ante separate stocks with momentum from those that exhibit reversal in international equity markets. A strategy that buys small value winners and sells large growth losers generates significantly larger momentum profits than a standard momentum strategy, is robust to common return controls, and does not suffer from return reversals for holding periods up to 3 years. The superior performance of the strategy is attributable to a rather systematic exploitation of cross-sectional mispricing among momentum stocks. (Look inside via Springer Nature SharedIt: https://rdcu.be/bf1On)
... In a broad sense, as a style refers to a group of stocks with similar characteristics that tend to perform analogously, market anomalies are in general considered possible candidates for styles (Bernstein, 1995). Indeed, starting from the 1980s, value/growth (measured by BM), size (measured by market capitalizations), and industry classifications are widespread descriptors of styles in the mutual fund industry and academic research (e.g., Haugen and Baker, 1996;Moskowitz and Grinblatt, 1999;Chan, Chen, and Lakonishok, 2002;Lewellen, 2002;Chen and De Bondt, 2004;Wahal and Yavuz, 2013). As market anomalies have been extensively proposed afterward, a fundamental question in regard to style investing arises: can a firm characteristic that is associated with stock returns be a potential (or better) investment style that generates higher profitability to investors? ...
... When profitability and investment factors are included in a pricing model, they show that the standard value factor becomes redundant in explaining stock returns. Motivated by the ample evidence that style rotation provides potential benefits in enhancing investment profits (e.g., Chen and De Bondt, 2004;Kao and Shumaker, 1999;Levis and Liodakis, 1999;Lucas, van Dijk, and Kloek, 2002) and Fama and French's (2015) recent evidence, we hypothesize that AG as a style can generate higher and more consistent momentum profits than traditional styles such as size and BM. ...
We establish a significant and robust connection between asset growth (AG) and style investing by showing that past style returns constructed based on AG and size jointly predict future stock returns significantly. Motivated by this notion, we propose a style momentum strategy based on AG and size and find that it dominates price momentum and size-BM style momentum in generating momentum profits. We examine two explanations for this predictability, including risk exposure to common risk factors and the limited-attention theory. Empirical evidence shows that the AG-size style momentum profit is induced because investors neglect the AG-size style performance, consistent with the limited-attention explanation, but not risk exposure to the investment factor. Further, we show that the profit of the AG-size style momentum is robust to different time periods partitioned by several time-series predictors.
... Also, Schwert (2003) documented momentum to remain profitable during the post-publication period. Finally, what is crucial for this investigation, multiple research papers have demonstrated that it is possible to apply momentum strategies to successfully rotate among investment styles (Chen and De Bondt, 2004;Tibbs et al., 2008;Clare et al., 2010;Chen et al., 2012) and also the most prominent strategies at the stock and country levels (Zaremba, 2015a). Importantly, Avramov et al. (2016) were the first to apply the concept of momentum to stock market anomalies and this study relies heavily on their concepts. ...
... Additionally, we propose and test a workable and efficient tool for allocating assets across the stock market anomalies. These examinations are related to three strains of research: (1) stock market efficiency and anomalies in the Polish emerging market (Lischewski and Voronkova, 2012;Urbański, 2012;Waszczuk, 2013;Czapkiewicz and Wojtowicz, 2014), (2) the pervasiveness of the momentum effect (e.g., Asness et al., 2013;Vidal-Garcia, 2013;Xie and Chen, 2015;Teplova and Milkova, 2015), and (3) and the tactical asset allocation across investment strategies (e.g., Chen and De Bondt, 2004;Teo and Woo, 2004;Aarts and Lehnert, 2005;Tibbs et al., 2008;Clare et al., 2010;Chen et al., 2012;Kim, 2012;Avramov et al., 2016;Zaremba, 2015aZaremba, , 2016. ...
... Brown and Harlow [46] postulate that consistency in investment style plays a significant role when selecting fund managers. Chen and Bondt [47] examined the relationship between style drift and mutual fund performance, suggesting that a substantial number of equity mutual funds diverge from their stated investment style. Cumming et al. [48] compared the performance between style-consistent funds with style-drifting funds; their results show that style-consistent funds tend to outperform style-drifting funds in the long run. ...
In this paper, we investigate the impact of fund style drift away from sustainability on future fund flows and performance within the Chinese market. Utilizing data from four mainstream ESG rating systems, we develop a novel measure of ESG fund style drift, which enables us to quantify the deviation of a fund’s actual style from its declared sustainable objectives. Our analysis, based on panel and logistic regression techniques, reveals a significant positive relationship between ESG-drift and ESG fund’s flow-performance sensitivity, with a dominant effect on fund flow from individual investors. Interestingly, compared with ESG funds that stick with their sustainability-oriented objectives, funds experiencing ESG-drift exhibit poorer returns, underperformance, smaller fund size, lower subscription rates, lower industry concentration, and lower fund flows, highlighting the crucial role of funds following objectives that prioritize sustainability. However, the ESG-drift does not significantly influence the fund’s future performance. This paper provides pivotal insights into the complex dynamics between a fund’s ESG commitment and its actual style, with important implications for enhancing ESG policies within the regulatory framework of the Chinese mutual fund market.
... The positive news sent the stock price skyrocketing well above its fundamental value, but investors realized their mistakes and corrected their actions, causing the price to reverse course (Dhankar, 2019). Past studies suggest that winning companies experience negative AR because of the euphoria surrounding them, which causes investors to overpay (Brammer, Brooks & Pavelin, 2009;Chen & De Bondt, 2004;Clare & Thomas, 1995). In addition, negative AR and CAR can occur because investors liquidate their securities as a result of stock surges, resulting in falling prices (Dhankar, 2019). ...
The global success of the K-pop music industry impacts the investment climate of the entertainment industry in the South Korean stock market. One of the driving factors attracting investors is the awards obtained by the K-pop idols. Hence, this event study investigates whether idols’ receiving awards creates stock abnormal returns (ARs) and cumulative abnormal returns (CARs). We collected five-day stock price data surrounding the events from 2018 to 2019 for the four entertainment companies. Using mean difference tests, we analyzed the movements of the stock returns. Our results show the appearance of positive and negative ARs dan CARs, indicating that investors react differently to the information contained in award announcements. This implies a deviance from the efficient market hypothesis and that investors behave irrationally whom investment decision affects the market. For this reason, companies should select awards when involving their idols.
... Great summary of studies was presented by Elroy Dimson, Paul Marsh and Mike Staunton (2002) in their text on markets' history "Triumph of the Optimists" where they show that winners (top 20% past returns) beat losers (bottom 20%) by 10.8% per year in the UK equity market from 1956 -2007. The greatest number of studies where researchers tried to verify momentum existence have been conducted with US stock market (Fama and French, 2008;Agyei-Ampomah 2007;Chen and DeBondt, 2004;Lewellen, 2002;Moskowitz and Grinblatt, 1999). Other authors also looked for evidence of momentum in international markets (Vanstone and Hahn, 2013;Chao et al. 2012;Naranjo and Porter, 2010) Narasimhan Jegadeesh and Sheridan Titman (1993) found that the Momentum effect has been evident in most major developed markets around the world. ...
... While a vast majority of social media studies utilize data of firm-user interaction on the Twitter (Martinez-Rojas et al., 2018), Facebook also remains important though understudied platform (Arora et al., 2019). For this study, we identified the firms in S&P 500 index that represents the largest and most important firms in the United States (Chen & De Bondt, 2004). To comply with the data collection norms of the two platforms as well as to ensure we have a large dataset; we identified a 3-year window (2016 to 2018) to collect data from these platforms. ...
There have been multiple research studies in recent days that have analyzed the growing role of social media in firms’ communication strategy as well as the role of social media in shaping a firm’s reputation. However, most of these studies focus on one of the multiple social media platforms that firms use. In this study, we argue that there are nuances in firms’ social media communication strategies depending on the platforms. Given the rising importance of sustainability, we focus on firms’ sustainability-related communication. We analyze the impact of firms’ one-way sustainability communication over Twitter and Facebook on the respective platforms’ user engagement. The engagement has been computed as likes and shares (likes and retweets) over the firm generated one-way sustainability communication-related posts. Using a panel dataset of a 3-year period for S&P 500 firms having active social media profiles on both platforms, we demonstrate the difference in the firms’ sustainability communication on the two platforms. We also find evidence that users on both platforms have different preferences, such as messaging from firms. Using a differential metric in our analysis helps us counter the firm-level fixed effects. We find evidence suggesting that firms would do well by having different strategies for different platforms. Firms would benefit by focusing on sustainability relevant and bite-sized content on Twitter, but more positive and engaging content on Facebook.
... Another possible factor to explain contrarian profits is risk. The contrarian strategy exhibits dynamic exposures, which are likely to negatively affect the profits and contribute to risk (Chen and De Bondt 2004) on the Fama and French's (1993) three-factor model. Blitz et al. (2013) introduced a short-term residual contrarian strategy (stocks are ranked based on historical residual returns), which they suggest generates significantly higher and more stable profits than the conventional contrarian strategy. ...
In contrarian trading, investors buy and sell loser stocks (lowest average historical prices) and winner stocks (highest average historical prices), respectively. This study examines whether (a) Thailand Sustainability Investment-listed companies outperform Stock Exchange of Thailand (SET)-listed companies (from 1 January 2016 to 31 December 2019) in contrarian profits, (b) the five-factor model outperforms their 1993 three-factor model in explaining contrarian profits, and (c) risk drives the earnings of contrarians. Companies were divided into portfolios of winners and losers based on the average of the daily historical prices held in various eras. The SET-listed companies perform better in generating profits. The root mean squared error and mean absolute error—measurements of model accuracy—report that the error from the three-factor model is smaller than the one from the five-factor model. Thus, the three-factor model is applied to estimate the risk-adjusted return. Zero contrarian profits after risk adjustment confirms that they are risk-driven.
... Barberis and Shleifer (2003) conduct the first theoretical analysis of the implications of style investing. Chen and Bondt (2004), Teo and Woo (2004), Cooper et al. (2005), and Wahal and Yavuz (2013) provide empirical evidence consistent with the predictions of Barberis and Shleifer (2003). Using proprietary data on daily institutional flows, Froot and Teo (2008) find strong evidence of stylelevel trading by institutions highlighting the prevalence of style investing. ...
Investor sentiment is an important condition for style investing in affecting asset price predictability. We find that style returns have predictive power for future stock returns in high sentiment periods, but not low sentiment periods. The correlation between style returns and stock returns explains the variation in momentum profits in high sentiment periods, but not low sentiment periods. Sentiment has an interaction effect with style returns, but not market returns. While positive style returns predict future stock returns under high sentiment, negative style returns do not. The effect of investor sentiment on style investing is independent of prior market returns.
... Interestingly, a few studies also demonstrate that the momentum phenomenon is present at the meta-level, that is, in the returns on investment strategies. In other words, momentum strategies could be used to successfully rotate across investing styles in equities (Chen et al. 2012;Chen and De Bondt 2004;Clare et al. 2010;Teo and Woo 2004;Tibbs et al. 2008) and across asset classes (Chao et al. 2012;Kim 2012). Zaremba and Szyszka (2016) and Avramov et al. (2017) employed momentum strategies to select the best performing equity anomalies. ...
This study aims to explore the performance persistence of frontier market equity anomalies. To this end, I replicate 140 anomalies in the cross-section of returns in a sample of 23 frontier markets. I demonstrate a robust and strong performance persistence in the anomaly returns. The return persistence is driven by two independent components related to past short- and long-term returns. These components reflect short-term momentum and cross-sectional variation in long-term anomaly returns, respectively. Combining the two components forms an efficient anomaly selection strategy.
... The article's key contribution is to go beyond industry affiliations and to document the informational content that earnings surprises contain for other firms sharing similar characteristics. While some studies show evidence of price momentum or long-term reversal among style portfolios (Lewellen, 2002;Chen and De Bondt, 2004;Teo and Woo, 2004), they consider longer formation and forecasting periods, do not concentrate on spillover effects from earnings surprises, and generally focus only on few styles such as value and size. ...
Prior research has shown that information diffuses gradually across stocks that are economically linked at the industry level. I document a similar pattern when stock portfolios are formed based on characteristics that are used in the anomaly literature (e.g., size, value, asset growth). Specifically, characteristics are useful to identify economic links, and earnings surprises contain information about future returns of other firms that share similar characteristics (i.e., "similar-style" firms). Such style-based earnings surprises can be used to predict style returns in the time series. For the cross-section of stocks, I create a composite style-based earnings surprise measure (SESM), which generates an equal-weighted (value-weighted) long-short strategy return of 167 (101) basis points per month. I do not find that industry spillovers, the traditional post-earnings announcement drift, unconditional abnormal style returns or risk can explain the return predictability. My findings suggest a further channel of gradual information diffusion in security markets. © 2017 The Authors. Published by Oxford University Press on behalf of the European Finance Association. All rights reserved.
... However, Chung and Lee (1998) report that dividends do not explain price movements. Chen and de Bondt (2004) reveal that dividend yield captures style-related trends in equity returns. Following the extant studies, this study employs P/E, P/B, and dividend yield ratio as the proxies of financial structure. ...
We explore what firm and macroeconomic factors assisted Chinese firms to resist the global financial crisis. We find that firms with higher top ten shareholder ratios or firms that are older exhibited saliently higher performance during the crisis, but performed poorly during the non-crisis period. Firm size has a notably negative impact on firm performance. Firms audited by the Big Four accounting firms have a significantly negative correlation with performance. During the crisis, stock markets became less efficient in incorporating firm-specific information into stock prices, signifying that the determinants of firm performance vary across non-crisis and crisis periods.
... In recent years, numerous academic studies have been dedicated to finding cross-sectional return patterns at the meta level (i.e., in the returns on investment strategies). This literature has concentrated predominantly on the momentum effect, and numerous investigations have demonstrated the momentum phenomenon in different investment styles (Chao, Collver, & Limthanakom, 2012;Chen & De Bondt, 2004;Clare, Sapuric, & Todorovic, 2010;Kim, 2012;Teo & Woo, 2004;Tibbs, Eakins, & DeShurko, 2008). Avramov, Cheng, Schreiber, and Shemer (2016) were the first to apply the concept of momentum to stock market anomalies. ...
This study examines the seasonality effect in the cross section of factor premia representing a broad set of stock market strategies. Using cross-sectional and time-series tests, we investigated the cross-sectional seasonality of market, value, size, momentum, quality and low-risk premia within a sample of 24 international equity markets for the years 1986–2016. We provide convincing evidence that the factors with the highest (lowest) mean returns in the same calendar months in the past continue to overperform (underperform) in seven of the studied countries: Denmark, Finland, France, Israel, Spain, Sweden and the United States. Furthermore, when the factors in multiple countries are considered, the past same-month returns display strong predictive power for future size and low-risk premia.
... The relationship between the recession and the S&P500 index (https://research.stlouisfed.org/fred2/series/ SP500) indeed confirms this intuition [43,44]. ...
We report complex phenomena arising among financial analysts, who gather information and generate investment advice, and elucidate them with the help of a theoretical model. Understanding how analysts form their forecasts is important in better understanding the financial market. Carrying out big-data analysis of the analyst forecast data from I/B/E/S for nearly thirty years, we find skew distributions as evidence for emergence of complexity, and show how information asymmetry or disparity affects financial analysts' forming their forecasts. Here regulations, information dissemination throughout a fiscal year, and interactions among financial analysts are regarded as the proxy for a lower level of information disparity. It is found that financial analysts with better access to information display contrasting behaviors: a few analysts become bolder and issue forecasts independent of other forecasts while the majority of analysts issue more accurate forecasts and flock to each other. Main body of our sample of optimistic forecasts fits a log-normal distribution, with the tail displaying a power law. Based on the Yule process, we propose a model for the dynamics of issuing forecasts, incorporating interactions between analysts. Explaining nicely empirical data on analyst forecasts, this provides an appealing instance of understanding social phenomena in the perspective of complex systems. © 2017 Kim et al. This is an open access article distributed under the terms of the Creative Commons Attribution License, which permits unrestricted use, distribution, and reproduction in any medium, provided the original author and source are credited.
Purpose
The authors compare sentiment level with sentiment shock from different angles to determine which measure better captures the relationship between sentiment and stock returns.
Design/methodology/approach
This paper examines the relationship between investor sentiment and contemporaneous stock returns. It also proposes a model of systems science to explain the empirical findings.
Findings
The authors find that sentiment shock has a higher explanatory power on stock returns than sentiment itself, and sentiment shock beta exhibits a much higher statistical significance than sentiment beta. Compared with sentiment level, sentiment shock has a more robust linkage to the market factors and the sentiment shock is more responsive to stock returns.
Originality/value
This is the first study to compare sentiment level and sentiment shock. It concludes that sentiment shock is a better indicator of the relationship between investor sentiment and contemporary stock returns.
The purpose of the study is to explore the influence of central bank digital currency on stock markets. To realize the purpose, the TVP-VAR model was built, which determines the impact of volatility of the CBDC attention index (CBDCAI) on the volatility of stock market indices. The study uses a time-varying vector autoregressive model that analyzes weekly data from the first week of January 2015 to the first week of July 2023. The endogenous vector to be assessed by VAR contains CBDCAI and stock market indices of different countries (France: CAC 40, The United States of America: S&P 500, Germany: DAX 40, United Kingdom: FTSE 100, China: SSEC, The Netherlands AEX 25, Switzerland: SMI 20, Japan: Nikkei 225, India: NIFTY 50, Brazil: BVSP, South Korea: KOSPI). The results of the TVP-VAR model show that compared to stock market indices, CBDCAI appeared to be relatively independent and isolated. Interdependence and mutual influence between the digital currency market of central banks and stock markets were also revealed. In addition, CBDC functions primarily as a volatility absorber rather than a source of volatility. Despite the overall ability of the CBDC market to absorb fluctuations in volatility, it may also change its function with the widespread adoption of central bank digital currencies in many countries.
Psychologists have been observing and interpreting economic behaviour for at least fifty years, and the last decade, in particular, has seen an escalated interest in the interface between psychology and economics. The Cambridge Handbook of Psychology and Economic Behaviour is a valuable reference resource dedicated to improving our understanding of the economic mind and economic behaviour. Employing empirical methods – including laboratory experiments, field experiments, observations, questionnaires and interviews – the Handbook covers aspects of theory and method, financial and consumer behaviour, the environment and biological perspectives. With contributions from distinguished scholars from a variety of countries and backgrounds, the Handbook is an important step forward in the improvement of communications between the disciplines of psychology and economics. It will appeal to academic researchers and graduates in economic psychology and behavioural economics.
Psychologists have been observing and interpreting economic behaviour for at least fifty years, and the last decade, in particular, has seen an escalated interest in the interface between psychology and economics. The Cambridge Handbook of Psychology and Economic Behaviour is a valuable reference resource dedicated to improving our understanding of the economic mind and economic behaviour. Employing empirical methods – including laboratory experiments, field experiments, observations, questionnaires and interviews – the Handbook covers aspects of theory and method, financial and consumer behaviour, the environment and biological perspectives. With contributions from distinguished scholars from a variety of countries and backgrounds, the Handbook is an important step forward in the improvement of communications between the disciplines of psychology and economics. It will appeal to academic researchers and graduates in economic psychology and behavioural economics.
Psychologists have been observing and interpreting economic behaviour for at least fifty years, and the last decade, in particular, has seen an escalated interest in the interface between psychology and economics. The Cambridge Handbook of Psychology and Economic Behaviour is a valuable reference resource dedicated to improving our understanding of the economic mind and economic behaviour. Employing empirical methods – including laboratory experiments, field experiments, observations, questionnaires and interviews – the Handbook covers aspects of theory and method, financial and consumer behaviour, the environment and biological perspectives. With contributions from distinguished scholars from a variety of countries and backgrounds, the Handbook is an important step forward in the improvement of communications between the disciplines of psychology and economics. It will appeal to academic researchers and graduates in economic psychology and behavioural economics.
Psychologists have been observing and interpreting economic behaviour for at least fifty years, and the last decade, in particular, has seen an escalated interest in the interface between psychology and economics. The Cambridge Handbook of Psychology and Economic Behaviour is a valuable reference resource dedicated to improving our understanding of the economic mind and economic behaviour. Employing empirical methods – including laboratory experiments, field experiments, observations, questionnaires and interviews – the Handbook covers aspects of theory and method, financial and consumer behaviour, the environment and biological perspectives. With contributions from distinguished scholars from a variety of countries and backgrounds, the Handbook is an important step forward in the improvement of communications between the disciplines of psychology and economics. It will appeal to academic researchers and graduates in economic psychology and behavioural economics.
Psychologists have been observing and interpreting economic behaviour for at least fifty years, and the last decade, in particular, has seen an escalated interest in the interface between psychology and economics. The Cambridge Handbook of Psychology and Economic Behaviour is a valuable reference resource dedicated to improving our understanding of the economic mind and economic behaviour. Employing empirical methods – including laboratory experiments, field experiments, observations, questionnaires and interviews – the Handbook covers aspects of theory and method, financial and consumer behaviour, the environment and biological perspectives. With contributions from distinguished scholars from a variety of countries and backgrounds, the Handbook is an important step forward in the improvement of communications between the disciplines of psychology and economics. It will appeal to academic researchers and graduates in economic psychology and behavioural economics.
Psychologists have been observing and interpreting economic behaviour for at least fifty years, and the last decade, in particular, has seen an escalated interest in the interface between psychology and economics. The Cambridge Handbook of Psychology and Economic Behaviour is a valuable reference resource dedicated to improving our understanding of the economic mind and economic behaviour. Employing empirical methods – including laboratory experiments, field experiments, observations, questionnaires and interviews – the Handbook covers aspects of theory and method, financial and consumer behaviour, the environment and biological perspectives. With contributions from distinguished scholars from a variety of countries and backgrounds, the Handbook is an important step forward in the improvement of communications between the disciplines of psychology and economics. It will appeal to academic researchers and graduates in economic psychology and behavioural economics.
Psychologists have been observing and interpreting economic behaviour for at least fifty years, and the last decade, in particular, has seen an escalated interest in the interface between psychology and economics. The Cambridge Handbook of Psychology and Economic Behaviour is a valuable reference resource dedicated to improving our understanding of the economic mind and economic behaviour. Employing empirical methods – including laboratory experiments, field experiments, observations, questionnaires and interviews – the Handbook covers aspects of theory and method, financial and consumer behaviour, the environment and biological perspectives. With contributions from distinguished scholars from a variety of countries and backgrounds, the Handbook is an important step forward in the improvement of communications between the disciplines of psychology and economics. It will appeal to academic researchers and graduates in economic psychology and behavioural economics.
Psychologists have been observing and interpreting economic behaviour for at least fifty years, and the last decade, in particular, has seen an escalated interest in the interface between psychology and economics. The Cambridge Handbook of Psychology and Economic Behaviour is a valuable reference resource dedicated to improving our understanding of the economic mind and economic behaviour. Employing empirical methods – including laboratory experiments, field experiments, observations, questionnaires and interviews – the Handbook covers aspects of theory and method, financial and consumer behaviour, the environment and biological perspectives. With contributions from distinguished scholars from a variety of countries and backgrounds, the Handbook is an important step forward in the improvement of communications between the disciplines of psychology and economics. It will appeal to academic researchers and graduates in economic psychology and behavioural economics.
Psychologists have been observing and interpreting economic behaviour for at least fifty years, and the last decade, in particular, has seen an escalated interest in the interface between psychology and economics. The Cambridge Handbook of Psychology and Economic Behaviour is a valuable reference resource dedicated to improving our understanding of the economic mind and economic behaviour. Employing empirical methods – including laboratory experiments, field experiments, observations, questionnaires and interviews – the Handbook covers aspects of theory and method, financial and consumer behaviour, the environment and biological perspectives. With contributions from distinguished scholars from a variety of countries and backgrounds, the Handbook is an important step forward in the improvement of communications between the disciplines of psychology and economics. It will appeal to academic researchers and graduates in economic psychology and behavioural economics.
Psychologists have been observing and interpreting economic behaviour for at least fifty years, and the last decade, in particular, has seen an escalated interest in the interface between psychology and economics. The Cambridge Handbook of Psychology and Economic Behaviour is a valuable reference resource dedicated to improving our understanding of the economic mind and economic behaviour. Employing empirical methods – including laboratory experiments, field experiments, observations, questionnaires and interviews – the Handbook covers aspects of theory and method, financial and consumer behaviour, the environment and biological perspectives. With contributions from distinguished scholars from a variety of countries and backgrounds, the Handbook is an important step forward in the improvement of communications between the disciplines of psychology and economics. It will appeal to academic researchers and graduates in economic psychology and behavioural economics.
Psychologists have been observing and interpreting economic behaviour for at least fifty years, and the last decade, in particular, has seen an escalated interest in the interface between psychology and economics. The Cambridge Handbook of Psychology and Economic Behaviour is a valuable reference resource dedicated to improving our understanding of the economic mind and economic behaviour. Employing empirical methods – including laboratory experiments, field experiments, observations, questionnaires and interviews – the Handbook covers aspects of theory and method, financial and consumer behaviour, the environment and biological perspectives. With contributions from distinguished scholars from a variety of countries and backgrounds, the Handbook is an important step forward in the improvement of communications between the disciplines of psychology and economics. It will appeal to academic researchers and graduates in economic psychology and behavioural economics.
Psychologists have been observing and interpreting economic behaviour for at least fifty years, and the last decade, in particular, has seen an escalated interest in the interface between psychology and economics. The Cambridge Handbook of Psychology and Economic Behaviour is a valuable reference resource dedicated to improving our understanding of the economic mind and economic behaviour. Employing empirical methods – including laboratory experiments, field experiments, observations, questionnaires and interviews – the Handbook covers aspects of theory and method, financial and consumer behaviour, the environment and biological perspectives. With contributions from distinguished scholars from a variety of countries and backgrounds, the Handbook is an important step forward in the improvement of communications between the disciplines of psychology and economics. It will appeal to academic researchers and graduates in economic psychology and behavioural economics.
The before mentioned models and methods have been used extensively in the asset pricing and investment styles literature. By doing so, research has found that some characteristics achieve similar good results (i.e., positive excess returns, low correlations to long-only strategies) across different asset classes. If those characteristics are robust over asset classes such as equities, fixed income, commodities, and others, it could be assumed they can be applied to digital assets in the same manner. Since it is not yet clear if digital assets can be considered as their own asset class, characteristics in popular asset classes are described to draw connections in subsequent chapters.
Global studies of style momentum show evidence of significant risk-adjusted profits over short estimation and holding periods. This study, conducted on the Johannesburg Stock Exchange (“JSE”) is partially consistent with developed market literature. First, we find that momentum-based style rotation is strongest over short estimation and holding periods. Second, we find a positive relationship between the number of styles applied and performance. Third, factor spanning tests indicate that price momentum and quality reduce time-series alphas, inconsistent with the more recent literature. Additionally, we find an inverse relationship between holding period and returns. The latter result favors a behavioral explanation
We perform investment factor timing based on risk forecasts exploiting the low-risk anomaly. Among various risk measures, we find downside deviation most suited for this task. We apply Long Short Term Memory Artificial Neural Networks (LSTM ANNs) to model the relationship between macro-economic as well as financial market data and the downside deviation of factors. The LSTM ANNs allow for complex, non-linear long-term dependencies. We use LSTM-based forecasts to select high- and low-risk factors in setting up an investment strategy. The strategy succeeds in differentiating positive from negative yielding factor investments, and an accordingly constructed investment strategy outperforms every factor individually as well as LASSO and Multilayer Perceptron neural network benchmark models.
Firm‐level studies of sustainable investment performance are typically limited by an errors‐in‐variables bias (i.e., a distortion of estimated regression coefficients caused by measurement error in explanatory variables). Using recent advances in statistical methodology, we present the first cross‐sectional analysis of sustainable stock selection which adequately corrects for this bias and additionally answers the question of whether betas with respect to sustainable risk factors or sustainable characteristics (i.e., environmental, social, and governance ratings) are more relevant in portfolio selection. Within the universe of S&P 500 stocks, which is highly relevant from the investor attention and liquidity perspectives, we find that, after accounting for errors‐in‐variables bias, both types of variables become insignificant. Consequently, they do not add value to investment portfolios and are not vital in models explaining stock returns. Among classic predictors with a long history of use in the investment fund industry, only the market‐to‐book ratio provides independent investment and pricing information.
This paper investigates the mean–variance and diversification properties of risk-based strategies executed on style or basis portfolios. We show that the performance of these risk strategies is highly sensitive to the sorting procedure used to form the basis assets. Whereas the extant literature provides mixed support for the outperformance of smart beta strategies based on scientific diversification, our designed strategies outperform both the market model and multifactor model. Our testing framework is based on bootstrapped mean–variance spanning tests and shows valid conclusions when controlling for multiple testing, transaction costs, and luck from random basis portfolio construction rules. Economically, our results are supported by diversification-based properties.
Purpose
Are the capital markets of leading industrialized nations rational and efficient? This powerful hypothesis was badly dented by the work of De Bondt and Thaler (1985) on stock market overreaction and by subsequent research on momentum and reversals in prices and earnings.
Design/methodology/approach
Human psychology, at times predictably irrational, drives the markets. This paper investigates this issue.
Findings
The author reviews the origins of the idea of overreaction, how behavioral insights modify standard asset pricing theory and how they contribute to our understanding of the world of finance.
Originality/value
The paper reveals the origins of the idea of overreaction, how behavioral insights modify standard asset pricing theory and how they contribute to our understanding of the world of finance.
I approximate the interest that value investing attracts through the frequency with which terms such as “book-to-market ratio” appear in the corpus of books scanned by Google. Following the years in which investor interest in value is relatively high, the realized value premium is found to be below average. On the other hand, there is no evidence that secular trends in interest have an impact on the value premium. The results therefore do not support the hypothesis that the value effect disappears once investors have become aware of it.
While the momentum strategy assumes the continuation of the price movement, the reversal strategies rely on a contrary assumption: predicting the price trend to revert. How can both the phenomena coexist? The solution is the investment horizon. While the momentum effect arises in the mid-term (3–12 months), the reversal occurs either in the short term (1 month) or in the long term (3–5 years). This chapter thoroughly discusses both the sources and implementation of reversal strategies in financial markets. The authors also showcased various improvements to the reversal strategies providing vast theoretical and empirical evidence in their support. Finally, they individually tested the reversal techniques across 24 different equity markets.
In this final chapter, the authors presented how to build an efficient portfolio of price-based strategies. The chapter not only presents the benefits of extensive diversification but also uncovers the possibilities of timing and tactical asset allocation. Momentum, cross-sectional seasonality, and value investing are still powerful, robust, and pervasive investment techniques working across multiple asset classes. Interestingly, the recent academic studies have shown them to work also at the meta-level: across investment strategies. In other words, it is possible to time price-based strategies based on their various characteristics stemming from the past returns. In the chapter, the authors reviewed these methods and showed how they could be efficiently used to form portfolios of strategies.
Momentum is defined as the tendency of securities with good (poor) past performance to overperform (underperform) in the future. It is one of the most pervasive anomalies ever discovered and evidenced across numerous asset classes. In this chapter, the authors reviewed diverse momentum techniques and their variations, presenting potential improvements: volatility scaling, timing the momentum crashes, time-series and intermediate versions of momentum, a trend range, and the 52-week high strategies. They provided theoretical explanations and surveyed rich empirical evidence of momentum profitability, testing three momentum-based strategies across 24 international equity markets.
In this study we estimate the survival time of momentum in six UK style portfolio returns from October 1980 to June 2014. We utilise the Kaplan-Meier estimator, a non-parametric method that measures the probability that momentum will persist beyond the present month. This probability enables us to compute the average momentum survival time for each of the six style portfolios. Discrepancies between these empirical mean survival times and those implied by theoretical models (Random Walk and ARMA (1, 1)) show that there is scope for profiting from momentum trading. We illustrate this by forming long-only, short-only and long-short trading strategies that exploit positive and negative momentum and their average survival time. These trading strategies yield considerably higher Sharpe ratios than the comparative buy-and-hold strategies at a feasible level of transaction costs. This result is most pronounced for the long/short strategies. Our findings remain robust during the 2007/08 financial crisis and the aftermath, suggesting that Kaplan-Meier estimator is a powerful tool for designing a profitable momentum strategy. JEL classification: G14, G11
In this study we estimate the survival time of momentum in six UK style portfolio returns from October 1980 to June 2014. We utilise the Kaplan-Meier estimator, a non-parametric method that measures the probability that momentum will persist beyond the present month. This probability enables us to compute the average momentum survival time for each of the six style portfolios. Discrepancies between these empirical mean survival times and those implied by theoretical models (Random Walk and ARMA (1, 1)) show that there is scope for profiting from momentum trading. We illustrate this by forming long-only, short-only and long-short trading strategies that exploit positive and negative momentum and their average survival time. These trading strategies yield considerably higher Sharpe ratios than the comparative buy-and-hold strategies at a feasible level of transaction costs. This result is most pronounced for the long/short strategies. Our findings remain robust during the 2007/08 financial crisis and the aftermath, suggesting that Kaplan-Meier estimator is a powerful tool for designing a profitable momentum strategy. JEL classification: G14, G11
In this study we estimate the survival time of momentum in six UK style portfolios’ returns in the period October 1980 – June 2014. We utilise the Kaplan-Meier estimator, a nonparametric method that measures the probability that momentum will persist beyond the present month. This probability enables us to compute the average momentum survival time for each of the six style portfolios. Discrepancies between these empirical mean survival times to those implied by theoretical models (Random Walk and ARMA (1, 1)) show that there is scope for profiting from momentum trading. We illustrate this by forming long-only, short-only and long-short trading strategies that exploit positive and negative momentum and their average survival time. Our trading strategies show that utilising momentum mean survival time yields considerably higher Sharpe ratios than the naïve buy-and-hold at a feasible level of transaction costs. This finding is most pronounced among the long/short strategies.
Behavioral finance is the study of how psychology affects financial decision making and financial markets. It is increasingly becoming the common way of understanding investor behavior and stock market activity. In this 2nd Edition Hersh Shefrin examines the reigning assumptions of asset pricing theory and reconstructs them to incorporate findings from behavioral finance. In other words, he takes the traditional tools in asset pricing and behavioralizes them. He constructs a solid, intact structure that challenges classic assumptions and at the same time provides a strong theory and efficient empirical tools. Building on the models developed by both traditional asset pricing theorists and behavioral asset pricing theorists, Shefrin's book takes the discussion to the next step. He provides a general behaviorally based intertemporal treatment of asset pricing theory that extends to the discussion of derivatives, fixed income securities, mean-variance efficient portfolios, and the market portfolio, based on all the latest research and theory. * The second edition continues the tradition of the first edition by being the one and only book to focus completely on how behavioral finance principles affect asset pricing, now with its theory deepened and enriched by a plethora of research since the first edition * A companion website contains a series of examples worked out as Excel spreadsheets so that readers can input their own data to test the results.
This paper evaluates various explanations for the profitability of momentum strategies documented in Jegadeesh and Titman (1993). The evidence indicates that momentum profits have continued in the 1990s, suggesting that the original results were not a product of data snooping bias. The paper also examines the predictions of recent behavioral models that propose that momentum profits are due to delayed overreactions that are eventually reversed. Our evidence provides support for the behavioral models, but this support should be tempered with caution.
The authors investigate the profitability of size and value/growth rotation strategies in the United Kingdom over the last thirty years after adjusting for various levels of forecasting skills and transaction costs. Furthermore, the authors link the size and the value/growth style spreads with a number of business cycle variables, and assess trading rules built upon their ex ante predictions. Their findings provide strong support for small versus large, but not value versus growth style rotation strategies.
We find that the determinants of the cross-section of expected stock returns are stable in their identity and influence from period to period and from country to country. Out-of-sample predictions of expected return are strongly and consistently accurate. Two findings distinguish this paper from others in the contemporary literature: First, stocks with higher expected and realized rates of return are unambiguously lower in risk than stocks with lower returns. Second, the important determinants of expected stock returns are strikingly common to the major equity markets of the world. Overall, the results seem to reveal a major failure in the Efficient Markets Hypothesis.
We analyze the response of small versus large manufacturing firms to monetary policy. The goal is to obtain evidence on the
importance of financial propagation mechanisms for aggregate activity. We find that small firms account for a significantly
disproportionate share of the manufacturing decline that follows tightening of monetary policy. They play a surprisingly prominent
role in the slowdown of inventory demand. Large firms initially borrow to accumulate inventories. After a brief period, small
firms quickly shed inventories. We attempt to sort financial from nonfinancial explanations with evidence on asymmetries and
on balance sheet effects on inventory demand across size classes.
Most mutual funds adopt investment styles that cluster around a broad market benchmark. Few funds take extreme positions away
from the index, but those who do are more likely to favor growth stocks and past winners. The bias toward glamour and the
tendency of poorly performing value funds to shift styles may reflect agency and behavioral considerations. After adjusting
for style, there is evidence that growth managers on average outperform value managers. Though a fund’s factor loadings and
its portfolio characteristics generally yield similar conclusions about its style, an approach using portfolio characteristics
predicts fund returns better.
This article studies momentum in stock returns, focusing on the role of industry, size, and book-to-market (B/M) factors.
Size and B/M portfolios exhibit momentum as strong as that in individual stocks and industries. The size and B/M portfolios
are well diversified, so momentum cannot be attributed to firm- or industry-specific returns. Further, industry, size, and
B/M portfolios are negatively autocorrelated and cross-serially correlated over intermediate horizons. The evidence suggests
that stocks covary “too strongly” with each other. I argue that excess covariance, not underreaction, explains momentum in
the portfolios.
This paper documents that strategies that buy stocks that have performed well in the past and sell stocks that hav e performed poorly in the past generate significant positive returns o ver three- to twelve-month holding periods. The authors find that the profitability of these strategies are not due to their systematic risk or to delay ed stock price reactions to common factors. However, part of the abnorm al returns generated in the first year after portfolio formation dissipates in the following two years. A similar pattern of returns around the earnings announcements of past winners and losers is also documented. Copyright 1993 by American Finance Association.
This paper evaluates various explanations for the profitability of momentum strategies documented in Jegadeesh and Titman (1993). The evidence indicates that momentum profits have continued in the 1990s, suggesting that the original results were not a product of data snooping bias. The paper also examines the predictions of recent behavioral models that propose that momentum profits are due to delayed overreactions that are eventually reversed. Our evidence provides support for the behavioral models, but this support should be tempered with caution. Copyright The American Finance Association 2001.
We investigate the value of active mutual fund management by examining the stockhold? ings and trades of mutual funds. We find that stocks widely held by funds do not outper? form other stocks. However, stocks purchased by funds have significantly higher returns than stocks they sell?this is true for large stocks as well as small stocks, and for value stocks as well as growth stocks. We find that growth-oriented funds exhibit better stock selection skills than income-oriented funds. Finally, we find only weak evidence that funds with the best past performance have better stock-picking skills than funds with the worst past performance.
Previous work shows that average returns on common stocks are related to firm characteristics like size, earnings/price, cash flow/price, book-to-market equity, past sales growth, long-term past return, and short-term past return. Because these patterns in average returns apparently are not explained by the CAPM, they are called anomalies. We find that, except for the continuation of short-term returns, the anomalies largely disappear in a three-factor model. Our results are consistent with rational ICAPM or APT asset pricing, but we also consider irrational pricing and data problems as possible explanations.
This article develops and applies new measures of portfolio performance which use benchmarks based on the characteristics of stocks held by the portfolios that are evaluated. Specifically, the benchmarks are constructed from the returns of 125 passive portfolios that are matched with stocks held in the evaluated portfolio on the basis of the market capitalization, book‐to‐market, and prior‐year return characteristics of those stocks. Based on these benchmarks, “Characteristic Timing” and “Characteristic Selectivity” measures are developed that detect, respectively, whether portfolio managers successfully time their portfolio weightings on these characteristics and whether managers can select stocks that outperform the average stock having the same characteristics. We apply these measures to a new database of mutual fund holdings covering over 2500 equity funds from 1975 to 1994. Our results show that mutual funds, particularly aggressive‐growth funds, exhibit some selectivity ability, but that funds exhibit no characteristic timing ability.
ABSTRACT Two easily measured variables, size and book-to-market equity, combine to capture the cross-sectional variation in average stock returns associated with market {3, size, leverage, book-to-market equity, and earnings-price ratios. Moreover, when the tests allow for variation in {3 that is unrelated to size, the relation between market {3 and average return is flat, even when {3 is the only explanatory variable. THE ASSET-PRICING MODEL OF Sharpe (1964), Lintner (1965), and Black (1972)
It is widely agreed that asset allocation accounts for a large part of the variability in the return on a typical investor's portfolio. This is especially true if the overall portfolio is invested in multiple funds, each including a number of securities. Asset allocation is generally defined as the allocation of an investor's portfolio among a number of "major " asset classes. Clearly such a generalization cannot be made operational without defining such classes. Once a set of asset classes has been defined, it is important to determine the exposures of each component of an investor's overall portfolio to movements in their returns. Such information can be aggregated to determine the investor's overall effective asset mix. If it does not conform to the desired mix, appropriate alterations can then be made. Once a procedure for measuring exposures to variations in returns of major asset classes is in place, it is possible to determine how effectively individual fund managers have performed their functions and the extent (if any) to which value has been added through active management. Finally, the effectiveness of the investor's overall asset allocation can be compared with that of one or more benchmark asset mixes. An effective way to accomplish all these tasks is to use an asset class factor model. After describing the characteristics of such a model, we illustrate applications of a model with twelve asset classes to analyze the performance of a set of open-end mutual funds between 1985 and 1989. ASSET CLASS FACTOR MODELS Factor models are common in investment analysis. Equation (1) is a generic representation:
The studies reported here had two purposes: (1) to review the opportunities in short-term timing strategies in the U.S. market and (2) to explore value versus growth investing in theory and in practice. We found that timing strategies in the U.S. market based on asset class and size have historically provided more opportunity for outperformance than a timing strategy based, on value (versus growth), albeit with similar information ratios. A multivariate macroeconomic analysis shows that return differences between value and growth stocks can have a straightforward, intuitive basis. In practice, the approach of style timers may vary, but successful style timing depends on efficient implementation.
An iterative application of William Sharpe's method of style analysis is applied to the classification of equity mutual funds. A new methodology for creating purified mutual fund style indexes is used to verify existing classifications. Results suggest that 9 percent of all equity funds are seriously misclassified and another 31 percent are somewhat misclassified. Two factors emerge as the most likely reasons for misclassification: (1) the ambiguity of the current classification system and (2) competitive pressures in the mutual fund industry and compensation structures that reward relative performance. Monte Carlo simulations on out-of-sample data show that this misclassification has a significant effect on investors' ability to build diversified portfolios of mutual funds.
This article examines the consistency of the small-firm and value stock return premiums using four alternative value stock criteria in each of four different decades; and across expansive versus restrictive monetary conditions. The results indicate that value stocks and small firms generally offer a premium, regardless of the decade considered or the measure used to define value, but the small-firm and value stock premiums differ substantially across monetary conditions. Strong small-firm and value stock premiums are identified in expansive monetary periods, while relatively weak or negative premiums appear in restrictive monetary conditions. Furthermore, during restrictive monetary periods, a Treasury bill portfolio outperforms the stock market average. The authors conclude that changes in monetary conditions play a prominent role in determining the return premiums investors earn.
Both academic and industry research supports the long-term efficacy of value strategies for choosing individual stocks. Value strategies are far from riskless, however. They can have long periods of poor performance. In an effort to improve upon these strategies, the authors have tried to forecast these returns with mixed results. Most of these "style timing" models are based on macroeconomic factors. The authors take a different approach considering two simple factors: 1) the spread in valuation multiples between a value portfolio and a growth portfolio (the value spread), and 2) the spread in expected earnings growth between a growth portfolio and a value portfolio (the earnings growth spread). They find that the greater the value spread and the smaller the earnings growth spread, the better their forecast for value versus growth going forward. These results are statistically and economically strong.
This article investigates whether investors can benefit from information about equity style evolution. The study shows that portfolios formed by firm characteristics such as size, book-to-market, and/or dividend yield can be used to determine investment style dominance. Characteristics momentum, buying stocks with persistent in-favor characteristics and selling stocks with persistent out-of-favor characteristics, conveys valuable information about future stock returns. It is distinct and has longer-lasting effects than price or industry momentum in predicting future returns. In explaining the existence of characteristics momentum profits, this study highlights the importance of slow evolution of changes in firm characteristics. The lifecycle of investment styles can thus have predictive power for trend-chasing investors, who can potentially push up the price of stocks with an in-favor style, and depress the price of stocks with an out-of-favor style.
In this analysis of the relationship between equity mutual fund performance and manager style, two questions are addressed. First, does any investment style generate abnormal returns on average? Second, when funds are grouped by equity style, does any style exhibit performance persistence? The answers from this study are as follows: None of the styles earned positive abnormal returns during the 1965-98 sample period, and value funds realized negative abnormal returns of about 2.75 percentage points a year. Some evidence was found of short-run performance persistence among the best-performing growth funds and among the worst-performing small-cap funds.
Several empirical studies show a systematic relationship between stock characteristics (size, earning yield, dividend yield, etc.) and stock returns. The previous studies, that show stocks with high earnings yield produce superior returns use univariate measures (such as E/P or B/P) to classify stocks into value or growth stocks. This paper shows that the traditional method of classification ignores instances when value and growth investing strategies instead of being mutually exclusive can complement each other in selecting superior performing stocks. Growth in EPS provides a more meaningful way to capture growth than using a measure of low E/P ratio. A strategy focusing on investing in stocks that have the dual characteristics of a high E/P ratio and high growth in EPS outperforms a strategy of high E/P alone. The study also documents some evidence of persistence in performance for stocks having the dual characteristic of high growth in EPS and high E/P ratio.
We examine a sample of 294 mutual funds that are advertised in Barron's or Money magazine. The preadvertisement performance of these funds is significantly higher than that of the benchmarks. We test whether the sponsors select funds to signal continued superior performance or they use the past superior performance to attract more money into the funds. Our analysis shows that there is no superior performance in the postadvertisement period. Thus, the results do not support the signaling hypothesis. On the other hand, we find that the advertised funds attract significantly more money in comparison with a group of control funds.
The value premium in U.S. stock returns is robust. The positive relation between average return and book-to-market equity is as strong for 1929 to 1963 as for the subsequent period studied in previous papers. A three-factor risk model explains the value premium better than the hypothesis that the book-to-market characteristic is compensated irrespective of risk loadings.
We investigate the value of active mutual fund management by examining the stockholdings and trades of mutual funds. We find that stocks widely held by funds do not outperform other stocks. However, stocks purchased by funds have significantly higher returns than stocks they sell-this is true for large stocks as well as small stocks, and for value stocks as well as growth stocks. We find that growth-oriented funds exhibit better stock-selection skills than income-oriented funds. Finally, we find only weak evidence that funds with the best past performance have better stock-picking skills than funds with the worst past performance.
We test whether the profitability of HML, SMB, and WML can be linked to future Gross Domestic Product (GDP) growth. Using data from ten countries, we find that HML and SMB contain significant information about future GDP growth. This information is to a large degree independent of that in the market factor. Even in the presence of popular business cycle variables, HML and SMB retain their ability to predict future economic growth in some countries. Our results support a risk-based explanation for the performance of HML and SMB. Little evidence is found to support such an explanation in the case of WML.
Using US data from June 1984 to July 1999, we show that the impact of firm-specific characteristics like size and book-to-price on future excess stock returns varies considerably over time. The impact can be either positive or negative at different times. This time variation is partially predictable. We investigate whether the partial predictability signals security mispricing or risk compensation by formulating alternative modeling strategies. The strategies are compared empirically. In particular, we allow for a state-dependent choice of investment styles rather than a once-and-for-all choice for a particular style, for example based on high book-to-price ratios or small market cap values. Using alternative ways to correct for risk, we find significant and robust excess returns to style rotating investment strategies. Business cycle oriented approaches exhibit the best overall performance. Purely statistical models for style rotation or fixed investment styles reveal less robust behavior.
Typescript (photocopy) Thesis (Ph. D.)--Cornell University, Jan., 1985. Bibliography: leaves 120-128.
http://deepblue.lib.umich.edu/bitstream/2027.42/35405/2/b1658141.0001.001.pdf http://deepblue.lib.umich.edu/bitstream/2027.42/35405/1/b1658141.0001.001.txt
The value premium in U.S. stocks returns is robust. The positive relation between average return and book-to-market equity (BE/ME) is as strong for 1929-63 as for the subsequent period studied in previous papers. Like others, we also find a size premium in stock returns. Small stocks have higher average returns than big stocks. The size premium is, however, weaker and less reliable than the value premium. The relations between average return and firm characteristics (size and BE/ME) are better explained by a three-factor risk model than by the behavioral hypothesis that investor overreaction causes characteristics to be compensated irrespective of risk loadings.
In this article we use a single unifying framework to analyze the sources of profits to a wide spectrum of return-based trading
strategies implemented in the literature. We show that less than 50% of the 120 strategies implemented in the article yield
statistically significant profits and, unconditionally, momentum and contrarian strategies are equally likely to be successful.
However, when we condition on the return horizon (short, medium, or long) of the strategy, or the time period during which
it is implemented, two patterns emerge. A momentum strategy is usually profitable at the medium (3- to 12-months) horizon,
while a contrarian strategy nets statistically significant profits at long horizons, but only during the 1926–1947 subperiod.
More importantly, our results show that the cross-sectional variation in the mean returns of individual securities included
in these strategies play an important role in their profitability. The cross-sectional variation can potentially account for
the profitability of momentum strategies and it is also responsible for attenuating the profits from price reversals to long-horizon
contrarian strategies.
It is well established that recent prior winner and loser stocks exhibit return continuation; a momentum strategy of buying recent winners and shorting recent losers appears profitable in the post 1945 era. In contrast, the risk exposure of such a strategy has not been well understood; the strategy's unconditional average risk exposure can be deceptive. The stock selection method of a momentum strategy guarantees that large and time varying factor exposured will be borne in accordance with the performance of the common risk factors during the periods in which stocks were ranked to determine their winner/losed status.
Recent imperfect capital market theories predict the presence of asymmetries in the variation of small and large firms risk over the economic cycle. Small firms with little collateral should be more strongly affected by tighter credit market conditions in a recession state than large, better collateralized ones. This paper adopts a flexible econometric model to analyze these implications empirically. Consistent with theory, small firms display the highest degree of asymmetry in their risk across recession and expansion states and this translates into a higher sensitivity of these firms expected stock returns with respect to variables that measure credit market conditions.
In this paper we analyze the theoretical implications of sorting data into groups and then running asset pricing tests within each group. We show that the way this procedure is implemented introduces a bias in favor of rejecting the model under consideration. By simply picking enough groups to sort into, the true asset pricing model can be shown to have no explanatory power within each group. Copyright The American Finance Association 2000.
This paper studies the flows of funds into and out of equity mutual funds. Consumers base their fund purchase decisions on prior performance information, but do so asymmetrically, investing disproportionately more in funds that performed very well the prior period. Search costs seem to be an important determinant of fund flows. High performance appears to be most salient for funds that exert higher marketing effort, as measured by higher fees. Flows are directly related to the size of the fund's complex as well as the current media attention received by the fund, which lower consumers' search costs. Copyright The American Finance Association 1998.
The 2008/9 financial crisis highlighted the importance of evaluating vulnerabilities owing to interconnectedness, or Too-Connected-to-Fail risk, among financial institutions for country monitoring, financial surveillance, investment analysis and risk management purposes. This paper illustrates the use of balance sheet-based network analysis to evaluate interconnectedness risk, under extreme adverse scenarios, in banking systems in mature and emerging market countries, and between individual banks in Chile, an advanced emerging market economy.
We examine whether mutual funds change their names to take advantage of current hot investment styles, and what effects these name changes have on inflows to the funds, and to the funds' subsequent returns. We find that the year after a fund changes its name to reflect a current hot style, the fund experiences an average cumulative abnormal flow of 28%, with no improvement in performance. The increase in flows is similar across funds whose holdings match the style implied by their new name and those whose holdings do not, suggesting that investors are irrationally influenced by cosmetic effects. Copyright 2005 by The American Finance Association.
A growing number of researchers argue that time-series patterns in returns are due to investor irrationality and thus can be translated into abnormal profits. Continuation of short-term returns or momentum is one such pattern that has defied any rational explanation and is at odds with market efficiency. This paper shows that profits to momentum strategies can be explained by a set of lagged macroeconomic variables and payoffs to momentum strategies disappear once stock returns are adjusted for their predictability based on these macroeconomic variables. Our results provide a possible role for time-varying expected returns as an explanation for momentum payoffs. Copyright The American Finance Association 2002.
This paper documents a strong and prevalent momentum effect in industry components of stock returns which accounts for much of the individual stock momentum anomaly. Specifically, momentum investment strategies, which buy past winning stocks and sell past losing stocks, are significantly less profitable once we control for industry momentum. By contrast, industry momentum investment strategies, which buy stocks from past winning industries and sell stocks from past losing industries, appear highly profitable, even after controlling for size, book-to-market equity, individual stock momentum, the cross-sectional dispersion in mean returns, and potential microstructure influences. Copyright The American Finance Association 1999.
Firm sizes and book-to-market ratios are both highly correlated with the average returns of common stocks. Eugene F. Fama and Kenneth R. French (1993) argue that the association between these characteristics and returns arise because the characteristics are proxies for nondiversifiable factor risk. In contrast, the evidence in this article indicates that the return premia on small capitalization and high book-to-market stocks does not arise because of the comovements of these stocks with pervasive factors. It is the characteristics rather than the covariance structure of returns that appear to explain the cross-sectional variation in stock returns. Copyright 1997 by American Finance Association.
Previous work shows that average returns on common stocks are related to firm characteristics like size, earnings/price, cash flow/price, book-to-market equity, past sales growth, long-term past return, and short-term past return. Because these patterns in average returns apparently are not explained by the capital asset pricing model, (CAPM), they are called anomalies. The authors find that, except for the continuation of short-term returns, the anomalies largely disappear in a three-factor model. Their results are consistent with rational intertemporal CAPM or arbitrage pricing theory asset pricing but the authors also consider irrational pricing and data problems as possible explanations. Copyright 1996 by American Finance Association.
This article examines the robustness of the evidence on predictability of U.S. stock returns, and addresses the issue of whether this predictability could have been historically exploited by investors to earn profits in excess of a buy-and-hold strategy in the market index. We find that the predictive power of various economic factors over stock returns changes through time and tends to vary with the volatility of returns. The degree to which stock returns were predictable seemed quite low during the relatively calm markets in the 1960s but increased to a level where, net of transaction costs it could have been exploited by investors in the volatile markets of the 1970s. Copyright 1995 by American Finance Association.
In a previous paper, we found systematic price reversals for stocks that experience extreme long‐term gains or losses: Past losers significantly outperform past winners. We interpreted this finding as consistent with the behavioral hypothesis of investor overreaction. In this follow‐up paper, additional evidence is reported that supports the overreaction hypothesis and that is inconsistent with two alternative hypotheses based on firm size and differences in risk, as measured by CAPM‐betas. The seasonal pattern of returns is also examined. Excess returns in January are related to both short‐term and long‐term past performance, as well as to the previous year market return.
Momentum effects in stock returns need not imply investor irrationality, heterogeneous information, or market frictions. A simple, single-firm model with a standard pricing kernel can produce such effects when expected dividend growth rates vary over time. An enhanced model, under which persistent growth rate shocks occur episodically, can match many of the features documented by the empirical research. The same basic mechanism could potentially account for underreaction anomalies in general. Copyright The American Finance Association 2002.