Recessionary periods create risks and opportunities for value investors. Historically, value outperforms the market during downturns that follow the bursting of a bubble and does relatively worse versus the market in downturns caused by a shock to fundamentals. In recoveries, value (along with quality and size) has strongly outperformed the market as uncertainty around the crisis resolves. The first-quarter 2020 downturn was triggered by a severe shock to fundamentals and, consistent with experience, value underperformed. The bubble-like extreme valuation dispersion before the crisis only widened in the downturn to a record high. Should the bubble burst, the closing valuation gap would imply potential substantial gains for value investors.
The COVID-induced crash—notably the crash in interest rates—has boosted the (marked-to-market) unfunded pension obligation for most pension funds by roughly 20% in a single quarter. If we are unable to remedy this problem in relatively short order, how will we close an underfunding gap that has been growing for a generation? By not addressing this shortfall, we are abandoning our pensioners and reneging on the pension promise made by the ERISA legislation passed in 1974.
Pundits routinely deem many asset classes to be broken, unlikely to earn investors a reasonable future return. We survey several of these and show that their performance leading up to the warning was within their normal range of outcomes and often rebounded over the following five years.
Value investing has underperformed growth investing for the last 13.3 years. The drawdown is the longest and deepest since 1963 and is explained by value becoming unusually cheap relative to growth. As of March 31, 2020, the relative valuation of the HML value factor fell to the 100th percentile of the historical distribution. With this article, the authors update an earlier January 2020 version with data through 1Q 2020.
The Fed’s $5 trillion bazooka, helicopter drops of cash, and a tripling of deficits over the next two years imply a future bout of high and volatile inflation unless fiscal policy nimbly pivots to help prevent the toxic side effect of a spike in inflation. Is that expectation realistic?
The macroeconomy, credit conditions, capital markets, and politics are all flashing warning signs that the capital markets may be near an inflection point. COVID-19 may be the tipping point that triggers the what’s-this-worth question many investors ask all at once. Under market pressure, what is your portfolio really worth?
The need for ESG ratings to help investors construct portfolios in line with their ESG preferences is acute. Unfortunately, both quality and consistency of ratings can hamper the process. We compare the ratings of two well-known ESG ratings providers to highlight why investors need to have a solid understanding of their provider’s methodology.
CEO transitions are a great time to focus on refining the enduring formula of a firm’s success. Katrina Sherrerd's formula has three equally important elements: mission, culture, and team. The result are win-win-win outcomes—that is, a win for our end investors, a win for our distribution partners, and a win for ourselves.
Although hidden, the implicit market impact costs of factor investing may substantially erode a strategy’s expected excess returns. The rebalancing data of a suite of large and long-standing factor-investing indexes are used in this study to model these market impact costs.
Published in the Financial Analysts Journal by Feifei Li, Tzee Chow, Alex Pickard, and Yadwinder Garg.
Winner of the 2020 Bernstein Fabozzi/Jacobs Levy Award for Outstanding Article
Factor investing has failed to live up to its many promises. Its success is compromised by three problems that are often underappreciated by investors.
Published in the Journal of Portfolio Management by Rob Arnott, Vitali Kalesnik, Campbell Harvey, and Juhani Linnainmaa.
Recognizing that the management of taxable portfolios has advanced in the past 25 years, the authors of the present paper update a seminal 1993 study in which Robert H. Jeffrey and Robert D. Arnott introduced the concept of a normally negative “tax alpha” and formulated tactics to reduce its detrimental impact on investment results.
Published in the Journal of Portfolio Management by Rob Arnott, Vitali Kalesnik, and Trevor Schuesler.
Winner of the 2016 Graham & Dodd Scroll Award Of Excellence Paper
Not every factor profits investors when implemented through a passive strategy. Size and quality show weak robustness, and liquidity-demanding factors, such as illiquidity and momentum, are associated with high trading costs.
Published in the Financial Analysts Journal by Jason Hsu, Vitali Kalesnik, Noah Beck, and Helge Kostka.
Many investment organizations benchmark their funds’ performance against the classic 60/40 mix of domestic stocks and bonds, but this posture limits their ability to earn superior risk-adjusted returns. The authors argue that investors can fully realize the well-established benefits of asset-class diversification only if they are seriously willing to revisit their policy portfolios, investment guidelines, and benchmarks.
Published in the Journal of Portfolio Management by Rob Arnott, Omid Shakernia, Jonathan Treussard, and Michael Aked.
Winner of the 2018 Bernstein Fabozzi/Jacobs Levy Award for Best Article
Valuation, always an effective tool for long-term investors, can also be useful for assessing short-term market prospects. The authors demonstrate that conditioning CAPE on current inflation and real yields substantially improves its accuracy in forecasting returns for periods from one month to one year.
Published in the Journal of Portfolio Management by Rob Arnott, Tzee Chow, and Denis Chaves.
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Bernstein Fabozzi/Jacobs Levy Award Winner
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