Research Review | 18 October 2019 | Portfolio Design And Analysis

Explaining the Demise of Value Investing
Baruch Lev (NY University) and Anup Srivastava (U. of Calgary)
August 25, 2019
The business press claims that the long-standing and highly popular value investing strategy—investing in low-valued stocks and selling short high-valued equities—lost its edge since 2007. The reasons for this putative sudden demise of value investing elude investors and academics, making it a challenge to assess the likelihood of the return of value investing to its days of glory. Based on extensive data analysis we show that the strategy has, in fact, been unprofitable for almost 30 years, barring a brief resurrection following dotcom bust. We identify two major reasons for the demise of value: (1) accounting deficiencies causing systematic misidentification of value, and particularly of glamour (growth) stocks, and (2) fundamental economic developments which slowed down significantly the reshuffling of value and glamour stocks which drove the erstwhile gains from the value strategy. We end up by speculating on the likelihood of the resurgence of value investing, which seems low.

Low-Volatility Strategy: Can We Time the Factor?
Poh Ling Neo (Singapore U. of Social Sciences) and Chyng Wen Tee (S.M.U.)
August 15, 2019
We show that the slope of the volatility decile portfolio’s return profile contains valuable information that can be harvested to time volatility and market condition. During good market condition, high-volatility portfolio produces the highest return, and vice versa. We proceed to devise a volatility timing strategy based on statistical tests on the slope of the volatility decile portfolio return profile. Volatility timing is achieved by being aggressive during strong growth periods, while being conservative during market downturns. Superior performance is obtained, with a 30% increase in Sharpe ratio and an order of magnitude improvement on cumulated wealth. We also demonstrate that stocks in the high-volatility portfolio are more strongly correlated compared to stocks in the low-volatility portfolio. The profitability of the volatility timing strategy can be attributed to holding a diversified portfolio during bear markets, while holding a concentrated growth portfolio during bull markets.

Predictable End-of-Month Treasury Returns
Jonathan Hartley (Harvard University) and Krista Schwarz (U. of Pennsylvania)
August 20, 2019
We document a distinct pattern in the timing of excess returns on coupon Treasury securities. Average returns are positive and highly significant in the last few days of the month, and are not significantly different from zero at other times. A long Treasury position for just the last few days of each month gives a high annualized Sharpe ratio of around 1. We attribute this pattern to window dressing and portfolio rebalancing. We find evidence in quantities that aggregate insurer transactions contribute to the end-of-month price pattern. In particular life insurers are large net buyers of Treasury securities on benchmark index rebalancing dates.

Protecting the Downside of Trend When It’s Not Your Friend
Kun Yang (PanAgora Asset Management), et al.
July 16, 2019
Simple trend-following strategies have been documented as cost-effective, transparent alternatives to the hedge-fund style Managed Futures strategies. While largely capturing the returns of the Managed Futures industry, those simple strategies may periodically suffer significant losses due to over-simplified trend signals and under-diversified portfolio construction. In this article, the authors show that trend-following strategies with moderate sophistication and better diversification can significantly reduce the downside risk of simple trend-following strategies without sacrificing much upside potential. The authors therefore recommend investors who seek the benefits of cost-effective trend-following strategies to consider adding reasonable complexity to the strategies.
To read the full paper, click here.

Predictive Blends: Fundamental Indexing Meets Markowitz
Sergiy Pysarenko (University of Guelph), et al.
November 29, 2018
When constructing a portfolio of stocks, do you turn a blind eye to the firms’ future outlooks based on careful consideration of companies’ fundamentals, or do you ignore the stocks’ correlation structures which ensure the best diversification? The Fundamental Indexing (FI) and Markowitz mean-variance optimization (MVO) approaches are complementary but, until now, have been considered separately in the portfolio choice literature. Using data on S&P 500 constituents, we evaluate a novel portfolio construction technique that utilizes the benefits of both approaches. Relying on the idea of forecast averaging, we propose to blend the two previously mentioned techniques to provide investors with a clear binocular vision. The out-of-sample results of the blended portfolios attest to their superior performance when compared to common market benchmarks, and to portfolios constructed solely based on the FI or MVO methods. In pursuit of the optimal blend between the two distinct portfolio construction techniques, MVO and FI, we find that the ratio of market capitalization to GDP, being a leading indicator for an overpriced market, demonstrates remarkably advantageous properties. Our superior results cannot be explained by classic asset pricing models.

Multi-Asset Style Factors Have Their Shining Moments
Benoit Bellone (independent researcher), et al.
August 28, 2019
Carry, Value and Momentum factors are said “to be everywhere” according to a growing body of research. As such they may be the most robust styles across asset classes and history. In this research paper, we look forward to clearing up the following questions: how to describe multi-asset styles performance across time and across different market regimes? How multi-asset styles should be expected to behave during alternative phases of the Stock Market cycle? Are cross-asset styles sensitive to volatility conditions? Are there different responses to changes in bond yields? Is there any style likely to be structurally more cyclical or defensive? Eventually, we would like to contribute to the current debate opposing Style Rotation to Diversification: is there a case for more time-varying and concentrated Multi-Asset style portfolio constructions?

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