It has long been known that many investors have a preference for cash dividends. From the perspective of classical financial theory, this behavior is an anomaly. The reason is that, in their 1961 paper, “Dividend Policy, Growth, and the Valuation of Shares,” Merton Miller and Franco Modigliani famously established that dividend policy should be irrelevant…
Low-volatility strategies have quickly become the darling of many investors, thanks largely to trauma caused by the bear market that arose from the 2008-2009 financial crisis combined with academic research showing that the low-volatility anomaly exists in equity markets around the globe. Earlier this week, we took a detailed look at a 2016 study from…
Numerous academic studies advocate for the partial-to-full annuitization of financial assets. Yet despite the evidence, a majority of investors remain reluctant to annuitize for both behavioral and financial reasons. The reluctance to purchase annuities has been called the “annuity puzzle.” I’ll try to shed some light on why this puzzle exists, as well as offer…
Among the hot “smart beta” strategies into which investors are pouring assets is quality. For example, the iShares Edge MSCI USA Quality Factor ETF (QUAL | A-84), which is only about three years old, already has $2.7 billion in assets. Before you consider investing in these increasingly popular strategies, however, it’s worth understanding the sources…
The hypothesis of an efficient market is based on the concept that informed, rational traders would arbitrage away any temporary deviations from “correct” prices. Thus, price efficiency depends upon the actions of arbitrageurs and the availability of arbitrage capital. When arbitrage capital is plentiful, anomalies should be quickly eliminated. However, if capital is scarce or…
There’s substantial evidence from the field of behavioral finance that individual investors have a strong preference for investments that exhibit the same characteristics as lottery tickets. Two of these characteristics are high kurtosis (or fat tails) and positive skewness, meaning values to the right of (or more than) the mean are fewer but farther from…
One of the problems for the first formal asset pricing model developed by financial economists, the Capital Asset Pricing Model (CAPM), was that it predicted a positive relationship between risk and return. However, empirical studies have found the actual relationship to be flat, or even negative. Over the last 50 years, the most “defensive” stocks…
The 1997 publication of Mark Carhart’s paper, “On Persistence in Mutual Fund Performance,” led to the four-factor model (which added momentum to market beta, size and value) becoming the workhorse model in finance. The next major contribution came from Robert Novy-Marx. His 2012 paper, “The Other Side of Value: The Gross Profitability Premium,” provided investors…
Among the most important decisions investors make is their choice of location for assets within the various alternatives available for retirement (tax-advantaged) accounts. Allocating between a traditional IRA (a pretax, tax-deferred account) and a Roth IRA (a post-tax, tax-free account) can have a pronounced impact on retirement outcomes, given the $14 trillion in tax-advantaged retirement…
Socially responsible investing (SRI) aligns ethical and financial concerns for investors. SRI has gradually developed over time to include the consideration of firms’ environmental, social and governance (ESG) performance. Of note is that, while SRI has evolved, the original practice of negative screening for the stocks of companies involved in harmful or controversial activities (so-called…
Bond ladders are frequently criticized in the financial media and even among some professional advisors (who, I would point out, are often able to use only bond mutual funds or ETFs). Earlier this week, we corrected some common misperceptions regarding individually tailored laddered municipal bond portfolios. Today we’ll move on to the many advantages of…
A number of articles were written at the end of 2008 noting the fact that, for the prior 40-year period, stocks had not outperformed safer bonds. For the period 1969 through 2008, the S&P 500 Index returned 9%, and so did long-term (20-year) Treasury bonds. Results for large-cap growth and small-cap growth stocks were even…
Traditional retirement planning calls for gradually reducing an investor’s equity allocation and increasing the allocation to safe bonds. Perhaps the most well-known example of this concept is the adage that your stock allocation should be equal to 100 minus your age (or with now-longer life expectancies, 110 minus your age). The gradually declining equity (DE)…
Portfolio-based risk factors are identified through diversified, zero-cost, long/short portfolios that may link stock returns to systematic risk. There is a substantial amount of evidence in the academic literature that some portfolio-based risk factors explain well the cross section of stock returns. Using a size factor and value factor in addition to the market factor,…
Two of the most powerful explanatory factors in finance are value and momentum. Research on both has been published for more than 20 years. However, it was not until recently that the two have been studied in combination and across markets. The study “Value and Momentum Everywhere” by Clifford Asness, Tobias Moskowitz and Lasse Pedersen,…