Factor Investing

Cut Your Losses and Let Profits Run?

Be careful before acting on what is considered to be conventional wisdom. Make sure it’s supported by empirical evidence. In this case, the evidence makes clear that “cut your losses and let your profits run” should not be conventional wisdom.

On the Persistence of Growth and Value Stocks

While analysts underwrite high growth for companies that have grown quickly and slow growth for companies that have grown slowly in the past, a large body of evidence demonstrates that reversion to the mean of both positive and negative abnormal earnings growth is the norm.

Band of Brothers Attacking Short Sellers: Game Stop for Hedge Funds

Advisors and investors should be aware that fund families that invest systematically have found ways to incorporate the research findings on the limits to arbitrage and the evolving changes we have discussed to improve returns over those of a pure index replication strategy. It seems likely this will become increasingly important, as the markets have become less liquid, increasing the limits to arbitrage and allowing for more overpricing.

Moving Average Distance and Time-Series Momentum

For investors that use trend-following strategies, Avramov, Kaplanski, and Subrhmanyam provided new evidence supporting momentum strategies and showed that the distance between short- and longer-term momentum signals provides additional explanatory power in the cross-section of equity returns.

Outperforming Cap- (Value-) Weighted and Equal-Weighted Portfolios

Antonello Cirulli and Patrick Walker, authors of the December 2023 study “Outperforming Equal Weighting,” examined whether equally weighted portfolios could be enhanced by avoiding negative exposure to some of the most prominent factor anomalies documented in asset pricing literature.

Financial Literacy in the US…Doesn’t look great!

This paper aims to analyze financial literacy in the United States, utilizing the most recent data from the National Financial Capability Study (NFCS) collected in 2021 by the Financial Industry Regulatory Authority (FINRA) Investor Education Foundation. The paper focuses on the importance of financial literacy, particularly in the context of the economic conditions in the US, such as the COVID-19 pandemic, inflation, and changes in the financial system.

The Financial Distress Puzzle

The empirical research findings demonstrate that the return premium generated by being long low-distress risk stocks and short high-distress risk stocks is persistent and that the capital asset pricing model (CAPM) and the Fama-French three-factor models cannot explain it. Hence, we have the distress puzzle, or anomaly.

The Temptation of Factor Timing

The timing of equity factor premiums has a strong allure for investors because academic research has found that factor premiums are both time-varying and dependent on the economic cycle.

Diseconomies of Scale in Investing

While the research shows that fund managers are skilled, skill doesn’t translate into outperformance due to the diseconomies of scale.

A new twist on momentum strategies: Utilize overlapping momentum portfolios

Momentum investors utilize different timeframes to identify high momentum equities: past 6, 9, 12 months as an example. Obviously, there is a significant degree of overlap in momentum stocks identified across various past time frames. However, there has been little research focused on understanding the characteristics of momentum stocks formed on six and 12 months that overlap one another. The authors refer to the subset as “overlapping” stocks and suggest they constitute the largest proportion of the profitability of the momentum strategy.

The Magnificent Seven

When a small subset of companies makes up a large portion of a portfolio, for better or worse their returns will have a greater impact on overall portfolio results.

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