Research
+ Market Perspective and Investor Behavior - Today, many investors take a negative view of the equities market. This is easy to understand for investors who only recently began to observe markets and put assets at risk. From a short-term perspective—the last year or so—investors would conclude that this is as tough a market as we’ve seen. They might even think it best to get out and stay out—that the equities market means nothing but trouble. But they’d be mistaken. It takes a far longer perspective to appreciate the wide range of return experiences possible from equity portfolios. To aid in the perspective market illustrations covering the last 82 years will be offered. This gives us a much more well-rounded view. An examination of some of the best experiences in the market and some of the worst, and see what we might learn. Then a “prediction” of what investors today are likely to do—at least based on past experience. We won’t be able to live the experience of 82 years, but we can improve our understanding of the current market in a context broader than the last year.
+ Serial Defaults and its Remedies - As stated by Carmen M. Reinhart and Kenneth S. Rogoff: "There is a high probability that sometime within the next few years, at least two or three of today’s highly leveraged emerging markets are going to suffer another traumatic debt crisis. There will be a witch hunt for culprits, led by various pundits who will, perhaps, point to the injustices of globalization, the lack of democracy in the international financial institutions, or the technical problems in the “international financial architecture.” It is hard to guess exactly what the debt crisis “flavor of the decade” will be, but we will surely see one." Section 1 of the article states that debt cycles are deeply entrenched in the process of development, and one must be careful about trusting magic elixirs that purport to finesse the problem. Section 2 of the article describes the recurring cycle of capital flows, pointing to why pundits have been convinced time and again that “this time it’s different.” Section 3 discusses the concept of debt intolerance...and Section 4 ponders remedies for debt intolerance and serial default.
+ Global Perspectives on Investment Management (On Low P/E Investing) - An interview with John Neff, CFA, manager at the Vanguard Group for 31 years about equity investing.
+ Imitation is the Sincerest Form of Flattery (Warren Buffett and Berkshire Hathaway) - An analysis of the performance of Berkshire Hathaway’s equity portfolio that explores the potential explanations for its superior performance. An examination of whether Berkshire’s investment performance is due to luck finds that beating the market in 28 out of 31 years places it in the 99.99 percentile; however, incorporating the magnitude by which Berkshire beats the market makes the “luck” explanation unlikely even after taking into account ex-post selection bias. From 1976 to 2006 Berkshire’s stock portfolio beats the S&P 500 Index by 14.65%, the value-weighted index of all stocks by 10.91%, and the Fama and French characteristic portfolio by 8.56% per year. Overall, the Berkshire Hathaway triumvirate of Warren Buffett, Charles Munger, and Lou Simpson suggests investment skill is more prevalent than earlier papers suggest.
+ 10 Ways to Beat an Index - Several studies over statistically significant lengths of time have indicated that most equity investment managers have failed to beat the Standard & Poor’s 500 Index. For example, Princeton University Professor Burton Malkiel found that the S&P 500 beat 70% of all equity managers retained by pension plans over the 1975–1994 20-year period. Seemingly small annual return differences, compounded over long periods of time, will result in significant differences in the amount of money at the end of the period. There can be a very large payoff from selecting a manager and a strategy that provide value above the Index return over the long run. By examining the investment records of seven investment managers with exceptional long-term track records, which were described in an article by Warren Buffett, The Superinvestors of Graham-and-Doddsville, in the Fall issue of HERMES. The common characteristic of all seven investment managers in Warren Buffett’s article was that they practiced a value-oriented investment approach. This sample of investment managers had investment results which exceeded either the Dow Jones Industrial Average (the “DJIA”) or the Standard & Poor’s 500 Stock Index (the “S&P 500”) by between 7.7% and 16.5% per year over periods ranging from 13 years to 28.25 years. None of the seven managers outperformed the S&P 500 each year. The average underperformance of the six managers was 33.3% of the years covered. In this paper by Tweedy, Browne Company LLC, the firm examines the returns of outperformers and details 10 characteristics that lead to above average performance.
+ Rob Arnott Discusses the Fundamental Approach to Stock Market Indexing - Robert D. Arnott and his firm, Research Affiliates, have created a new series of equity market indexes that use fundamental, valuation-indifferent measures of company size to select and weight stocks in the index. Arnott and his firm created this “fundamental indexing” approach to remedy a perceived defect in market capitalization-weighted indexes, which select and allocate stocks by market value. Arnott and other market theorists believe returns on capitalization-weighted indexes suffer because of their tendency to overweight stocks that are trading above their true fair value. In the interview below, Mr. Arnott discusses the fundamental indexing approach and why it should outperform traditional capitalization-weighted indexes.
+ The Long-term Returns on the Original S&P 500 Firms - The S&P 500 Index, first compiled in March, 1957, is the most widely-used benchmark for measuring the performance of large capitalization, US-based stocks. The index of 500 stocks is continually updated, adding approximately 20 new firms each year that meet Standard and Poor’s criteria for market value, earnings, and liquidity while deleting an equal number that fall below these standards or are eliminated by mergers or other corporate changes. Jeremy Seigel and Jeremy Schwartz calculated the return of all 500 of the original S&P 500 firms and the new firms that have been subsequently added to the index. Contrary to earlier studies, they found that the buy-and-hold returns of the 500 original firms have outperformed the returns on the continually updated S&P 500 index and have done so with lower risk.
+ Studies of Investment Approaches and Characteristics of Exceptional Returns - Compiled by Tweedy, Browne Company LLC, included in this booklet are descriptions of 44 studies, one-half of which relate to non-U.S. stocks. The choice of studies has not been selective; they merely included most of the major studies we have seen through the years. Interestingly, geography had no influence on the basic conclusion that stocks possessing the characteristics described in this booklet provided the best returns overlong periods of time. It does provide empirical evidence that Benjamin Graham’s principles of investing, first described in 1934 in his book, Security Analysis, continue to serve investors well. A knowledge of the recurring and often interrelated patterns of investment success over long periods has not only enhanced the investment process, but has also provided long-term perspective and, occasionally, patience and perseverance.
+ Investing in Global Hard Assets - This report by Ibbotson Associates in 1999 would have proved valuable for all investors before the tech-telecom-media market crash beginning in March, 2000. Investors used to take comfort in the notion that a portfolio diversified among domestic stocks and bonds would provide sufficient returns at the price of only moderate risk. There was good reason for this comfort. Investors have been aware of the important role that correlation between portfolio components plays in determining the risk of a portfolio at least since the development of mean-variance optimization by Markowitz [1952]. The lower the correlation, the better, which used to be exactly what domestic stock and bond investors experienced. From 1926 to 1969, the correlation between annual total returns for U.S. stocks and bonds was an attractive -0.02. Today, U.S. stock and bond markets mostly move in the same direction. This tendency is reflected in the correlation that was 0.23 from 1970 to 1980 and 0.58 from 1981 to 1998. This lack of diversification, in combination with attractive returns observed in other asset classes, drives the vigor with which opportunities in non-traditional (or alternative) asset classes have been pursued in recent years.
