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Investing Research Articles

Calibrating Ancient History

Is there a way to deal with structural breaks more precisely than just expressing vague skepticism about the usefulness of old data? In the April 2007 draft of their paper entitled “How Useful Are Historical Data for Forecasting the Long-run Equity Return Distribution?”, John Maheu and Thomas McCurdy describe and test a methodology for identifying and calibrating structural breaks in long-term excess equity returns. Using monthly U.S. equity return and risk-free rate data for the period February 1885 through December 2003, they conclude that: Keep Reading

Abnormal Returns from Selling Index Put Options?

Are equity investors on average irrationally afraid of market plunges, and therefore willing to overpay for index put options? In their October 2004 paper entitled “A Portfolio Perspective on Option Pricing Anomalies”, Joost Driessen and Pascal Maenhout investigate the benefits of index options positions to asset allocating investors. In the June 2007 version of their paper entitled “Understanding Index Option Returns”, Mark Broadie, Mikhail Chernov and Michael Johannes compare historical option returns to those generated by commonly used option pricing models. These studies find that: Keep Reading

David Nassar: Is He Market-wise?

As suggested by a reader, we evaluate here the market commentary of David Nassar via MarketWatch for November 2004 through May 2006. David Nassar is the chairman and chief executive of MarketWise.com, “a company built by traders and investors offering quality university level education with enduring benefits.” Their mission is “to support traders and investors in their quest to achieve financial freedom and success, while sharing the passion and trading skills of our instructors with our students.” The table below quotes forecast highlights from the cited source and shows the performance of the S&P 500 Index over various numbers of trading days after the publication date for each item. Grading takes into account more detailed market behavior when appropriate. Red plus (minus) signs to the right of specific forecasts indicate those graded right (wrong) based on subsequent market behavior, while red zeros denote any complex forecasts graded both right and wrong. We conclude that: Keep Reading

Do Investors Fairly Value Stocks of the Most Admired Companies?

In their 2005 paper entitled “A Great Company Can Be a Great Investment”, Jeff Anderson and Gary Smith evaluate the stock returns of companies rated highest in Fortune magazine’s annual surveys of “America’s Most Admired Companies.” Survey respondents are senior executives, directors and securities analysts, and the questions asked seemingly relate indirectly or directly to the investment value of the companies named. Using lists for 1983 (survey inception) through 2004 (a total of 22 years) and associated stock return data for the publicly held companies on the lists, they conclude that: Keep Reading

Are Bad Weeks (Months) Followed by Bad or Good Ones?

Is a bad week or month in the stock market an indicator of further immediate deterioration? Using weekly and monthly S&P 500 index closing levels since 1950 (2,998 weeks and 689 months), we find that: Keep Reading

The Predictive Power of the Put-Call Ratio for Individual Stocks

Do put-call ratios for individual stocks predicting their future returns? In their 2006 paper entitled “The Information in Option Volume for Future Stock Prices”, published in The Review of Financial Studies, Jun Pan and Allen Poteshman investigate the predictive power of put-call ratios for the returns of individual stocks. They define the put-call ratio as put buy-to-open volume divided by the sum of put and call buy-to-open volumes. Using daily volumes for all Chicago Board Options Exchange (CBOE) listed options and associated stock price data during 1990-2001, they find that: Keep Reading

Effects of Inflation Rate Trend and Volatility on Stock Returns

A reader suggested that stocks may respond to two second order effects in the Consumer Price Index (CPI): (1)trend in monthly CPI changes (monthly inflation rate), as measured by the slope of changes over a few consecutive months; and, (2) volatility of monthly CPI changes, as measured by the standard deviation of changes over a few consecutive months. Testing these effects with CPI data and monthly S&P 500 index closing levels for estimated or actual CPI release dates during January 1990 through June 2007 (210 months), we find that: Keep Reading

Using Firm Productivity Measures to Enhance Stock Returns

Investors ought to reward a company that employs capital productively. One measure of firm productivity is return on invested capital (ROIC), the ratio of operating income to invested capital (debt plus equity minus cash from the balance sheet). Do stocks of high-ROIC firms outperform those of low-ROIC firms? In their June 2007 paper entitled “The Productivity Premium in Equity Returns”, David Brown and Bradford Rowe examine the relationship between ROIC and stock returns for both value stocks and growth stocks. They define value (growth) companies as those with high (low) CTEV, the ratio of invested capital (book value of equity plus debt minus cash) to enterprise value (market value of equity plus debt minus cash). Using monthly stock price data and contemporaneously available accounting fundamentals for the 1,000 largest U.S. companies during 1970-2005, they conclude that: Keep Reading

Hiring and Firing Investment Managers

The sponsors of retirement/endowment plans (public and corporate pension plans, unions, foundations and endowments) retain professionals to manage their funds. Do their decisions to hire and fire such professionals pan out? In other words, do their plans outperform the market after they change managers? In their May 2006 paper entitled “The Selection and Termination of Investment Management Firms by Plan Sponsors”, Amit Goyal and Sunil Wahal examine this question. Using data for 8,204/910 hiring/firing decisions by 3,591 plan sponsors during 1994-2003, they conclude that: Keep Reading

Organizing Financial Markets Research

Both the academic community and practitioners generate large numbers of studies, formal and informal, analyzing and forecasting financial markets. In this blog, we offer an organization of financial markets research by topics such as The Value Premium and Buybacks and Secondaries. Are there other organizing principles that might convey a more fundamental understanding? Reflecting on the hundreds of studies we have reviewed and the limitations of this research with regard to practical application, here is another framework for thinking about financial markets research: Keep Reading

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