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Investing Research Articles

Vanguard vs. Fidelity Funds

Which fund family is better, Vanguard or Fidelity? In their April 2019 paper entitled “Vanguard versus Fidelity: Multidimensional Comparison of the Index Funds and ETFs of the Two Largest Mutual Fund Families”, Chong Li, Edward Tower and Rhona Zhang compare 21 matched Vanguard and Fidelity fund pairs in five ways: (1) before-tax and after-tax performance, (2) tax efficiency, (3) cost (expense ratio, turnover and short-term redemption fees), (4) diversification and (5) benchmark tracking precision. They consider 10 domestic equity and international equity index mutual funds and 11 sector exchange-trade funds (ETF). Their objective is to aid investors in selecting a fund provider. Using fund performance, cost, holdings and benchmark as of the end of 2018, they find that: Keep Reading

Deep Fundamental Analysis and Future Stock Returns

Can a deep dive into company accounting data reliably predict stocks that will underperform? In their February 2019 paper entitled “Earnings Quality on the Street”, Urooj Khan, Venkat Peddireddy and Shivaram Rajgopal examine proprietary reports from a research firm that screens publicly available accounting data for over 9,000 North American and 5,500 other global companies to identify those in poor financial health (book value and earnings quality). Mutual funds, money managers, hedge funds, insurance companies, banks, CPA firms, law firms and individual investors subscribe to these reports. The research firm emphasizes importance of industry-specific metrics, evaluating whether each metric for a company is abnormal (aggressively optimistic) relative to peers and to its own history. Using 1,029 reports on aggressive reporting practices for 348 unique companies, and associated future daily stock returns, during 2004 through 2015, they find that:

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Long-term SMA and TOTM Combination Strategy

“Turn-of-the-Month Effect Persistence and Robustness” indicates that average absolute returns during the turn-of-the-month (TOTM) are strong for both bull and bear markets. Does a strategy of capturing all bull market returns and TOTM returns only during bear markets perform well? To investigate, we apply four strategies to S&P Depository Receipts (SPY) as a tradable proxy for the stock market:

  1. Buy and hold SPY.
  2. Hold SPY (cash) when SPY closes above (below) its 200-day simple moving average (SMA200).
  3. Hold SPY from the close five trading days before through the close four trading days after the last trading day of each month and cash at all other times (TOTM).
  4. Hold SPY when SPY closes above its 200-day SMA and otherwise use the TOTM strategy (SMA200 or TOTM).

We explore sensitivities of these strategies to a range of one-way SPY-cash switching frictions, with baseline 0.1%. Using daily dividend-adjusted closing levels of SPY from inception (January 1993) through early April 2019 and contemporaneous 3-month Treasury bill (T-bill) yields, we find that: Keep Reading

Turn-of-the-Month Effect Persistence and Robustness

Is the Turn-of-the-Month (TOTM) effect, a concentration of relatively strong stock market returns around the turns of calendar months, persistent over time and robust to different market conditions. Does it exist for all calendar months? Does it persist throughout the U.S. political cycle? Does it work for different equity indexes? To investigate, we define TOTM as the interval from the close five trading days before to the close four trading days after the last trading day of the month (a total of eight trading days, centered on the monthly close). Using daily closes for the S&P 500 Index during January 1950 through early March 2019 (831 TOTMs) and for the Russell 2000 Index during September 1987 through March 2019 (379 TOTMs), we find that: Keep Reading

Ubiquitous Equity Factor Momentum?

Do returns for equity factors (long stocks with high expected returns and short stocks with low expected returns based on some firm/stock trading characteristic) broadly and reliably exhibit momentum? In other words, do factors with strong (weak) returns in recent months have strong (weak) returns next month? In the February 2019 revision of their paper entitled “Factor Momentum Everywhere”, Tarun Gupta and Bryan Kelly test return momentum among 65 widely studied long-short equity factors for the U.S. and 62 factors globally that have underlying data available since the mid-1960s, including: valuation ratios (such as earnings-to-price and book-to-market); size, investment and profitability metrics (such as market capitalization, sales growth and return on equity); idiosyncratic risk metrics (such as betting against beta, stock volatility and skewness); and, liquidity metrics (such as Amihud illiquidity, share volume and bid-ask spread). For each factor, they each month:

  • Exclude as outliers the top and bottom 1% of stocks with the most extreme factor characteristic values.
  • Split residual stocks into big and small size segments based on median NYSE market capitalization for U.S. stocks and 80th percentile of market capitalizations for international stocks.
  • Within size segments, sort stocks into low/medium/high characteristic bins based on 30/40/30 percentile splits and form value-weighted sub-portfolios that are long (short) high (low) bins.
  • Form an overall factor portfolio with long side 0.5 * (Large High + Small High) and short side 0.5 * (Large Low + Small Low).

They consider both time series factor momentum (TSFM, intrinsic or absolute momentum) and cross-sectional factor momentum (CSFM, relative momentum). As benchmarks, they consider the equal-weighted average return for all factors and a conventional stock momentum factor based on returns from 12 months to one month ago. Using monthly U.S. and global data required to construct the factor portfolios and their returns from 1965 through 2017, they find that: Keep Reading

Weekly Summary of Research Findings: 4/22/19 – 4/26/19

Below is a weekly summary of our research findings for 4/22/19 through 4/26/19. These summaries give you a quick snapshot of our content the past week so that you can quickly decide what’s relevant to your investing needs.

Subscribers: To receive these weekly digests via email, click here to sign up for our mailing list. Keep Reading

Trailing Stop-loss Effectiveness for Stocks

How well do trailing stop-loss rules work for U.S. stocks? In their March 2019 paper entitled “Risk Reduction Using Trailing Stop-Loss Rules”, Bochuan Dai, Ben Marshall, Nick Nguyen and Nuttawat Visaltanachoti evaluate effectiveness of trailing stop-loss rules. Traditional stop-loss rules are price-based or time-based. Trailing stop rules sell (buy back) a stock when it declines X% from a high price (rises X% above a low price). The initial trailing stop is X% below the purchase price, remaining at this level unless the stock price rises and escalates to X% below each new high. Stock sales occur at the close on the day after respective stop-loss triggers, with proceeds moved to U.S. Treasury bills (T-bills). Stock re-entries occur at the close on the day after respective buy triggers (see the figure below). They consider trailing stop thresholds of 1%, 5%, 10% and 20%. They use buy-and-hold as a benchmark. Using daily returns for 25,997 common stocks, including delisted stocks, during July 1926 through December 2016, they find that:

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Creating and Maintaining Antifragile Portfolios

How should investors manage their portfolios to withstand market crashes. In his March 2019 paper entitled “Managing the Downside of Active and Passive Strategies: Convexity and Fragilities”, Raphael Douady discusses how to construct an “antifragile” portfolio given that most equity market risk is not readily observable. He describes ways to monitor the probability of a new crisis. Based on in-depth analysis of market behaviors during past speculative bubbles and other crises, he concludes that:

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Expert Estimates of 2019 Country Equity Risk Premiums and Risk-free Rates

What are current estimates of equity risk premiums (ERP) and risk-free rates around the world? In their March 2019 paper entitled “Market Risk Premium and Risk-free Rate Used for 69 Countries in 2019: A Survey”, Pablo Fernandez, Mar Martinez and Isabel Acin summarize results of a February-March 2019 email survey of international finance/economic professors, analysts and company managers “about the Market Risk Premium (MRP or Equity Premium) and Risk-Free Rate that companies, analysts, regulators and professors use to calculate the required return on equity in different countries.” Results are in local currencies. Based on 5,096 specific and credible premium estimates spanning 69 countries with more than eight such responses, they find that: Keep Reading

Comparing Ivy 5 Allocation Strategy Variations

A subscriber requested comparison of four variations of an “Ivy 5” asset class allocation strategy, as follows:

  1. Ivy 5 EW: Assign equal weight (EW), meaning 20%, to each of the five positions and rebalance annually.
  2. Ivy 5 EW + SMA10: Same as Ivy 5 EW, but take to cash any position for which the asset is below its 10-month simple moving average (SMA10).
  3. Ivy 5 Volatility Cap: Allocate to each position a percentage up to 20% such that the position has an expected annualized volatility of no more than 10% based on daily volatility over the past month, recalculated monthly. If under 20%, allocate the balance of the position to cash.
  4. Ivy 5 Volatility Cap + SMA10: Same as Ivy 5 Volatility Cap, but take completely to cash any position for which the asset is below its SMA10.

To perform the tests, we employ the following five asset class proxies:

iShares 7-10 Year Treasury Bond (IEF)
SPDR S&P 500 (SPY)
Vanguard REIT ETF (VNQ)
iShares MSCI EAFE Index (EFA)
PowerShares DB Commodity Index Tracking (DBC)

We consider monthly performance statistics, annual performance statistics, and full-sample compound annual growth rate (CAGR) and maximum drawdown (MaxDD). The DBC series in combination with the SMA10 rule are limiting with respect to sample start date and the first return calculations. Using daily and monthly dividend-adjusted closing prices for the five asset class proxies and the yield on U.S. Treasury bills (T-bills) as the return on cash during February 2006 through March 2019, we find that: Keep Reading

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