Retirement Investment Bookmarks
Posted on: June 11, 2008
Why is oil closing on $138? James Hamilton has an answer.
William Engdahl argues “60% of today’s oil price is pure speculation“.
J.D. of Get Rich Slowly explains why it pays to ignore financial news.
Newsweek has a piece on the Great Leap Downward of Chines stocks. Did I tell you this last year?
Get informed about wealth building, sign up for The Investment Scientist newsletter
Share this:
Over the last 60 years, the simple average annual return of the Fama/French benchmark small-cap portfolio* was 16.3%. For the same period, the large-cap portfolio* was only 12.76%. Do you think small cap beat large cap by a wide margin? I put my mathematician’s hat on to find out.
Volatility shrinks the return difference
The small-cap portfolio return volatility for this period was 26%, and 16.4% for the large cap. Taking into account the drag to return by volatility , I calculated the geometric mean return for both portfolios. My results showed 12.9% for small cap, and 11.4% for large cap. Mathematically, the return advantage of the small-cap portfolio is significantly reduced by its volatility.
The odd favors small cap … somewhat
For most investors, long-term investing means holding a stock for three to five years. What is the odds of the small-cap portfolio beating the large-cap portfolio? Not by much.
In any given three-year period during the last 60 years, the odd of the small-cap portfolio beating the large-cap portfolio were only 51%. It increases to 58% when the investment horizon is 5 years and 72% when the investment horizon is 10 years. For most investors, the odds barely favor small-cap investing.
| Investment horizon | 1 year | 3 years | 5 years | 10 years | 20 years | 30 years |
| Odds of small cap beating large cap | 53% | 51% | 58% | 72% | 75% | 90% |
Data source: Kenneth French data library
Emotional accounting
Daniel Kahneman, the 2002 Economic Nobel laureate and the father of behavioral finance observed that the pain from a loss is twice the pleasure from a gain of the same size.
Applying his principle: I assigned one unit of positive emotion to each 1% gain and deducted two units of positive emotion to each 1% loss. So a resulted positive number represents pleasure and a negative number represents pain. The sum of monthly results over the last 60 years showed: -788 for the small-cap portfolio and -482 for the large-cap portfolio. It is clearly painful to invest in stocks, small cap stocks especially. (This also explains why people prefer to put their money in CDs.) Is the pain of small cap investing worth the gain? You decide.
There are ways to reduce the pain and enhance the gain through diversification and valuations. They are the subjects of my future newsletter, which you can subscribe here.
*Fama/French benchmark small cap portfolio contains stocks in the bottom 30% of market capitalization. Fama/French benchmark large cap portfolio contains stocks in the top 30% of market capitalization.
Get informed about wealth building, sign up for The Investment Scientist newsletter
Share this:
Volatility: a drag on return
Posted on: May 16, 2008
In my last article, I explained why volatility does not measure risk. It’s an assertion by none other than Warren Buffet himself. I hope the historical data I used convincingly illustrated the point.
If volatility doesn’t measure risk, then what can we learn from it?
Let’s look at this simple example. Let’s say you invest $100 in asset A, whose volatility is 10%. In year one, the asset returns 10%. In year two, it returns -10%. What is the terminal value in year two? If you’re like most of us mortals, you’d call it a wash. You’d guess $100. Not so, the terminal value is $100*(1+10%)*(1-10%)=$99.
Now let’s assume you invest $100 in asset B, whose volatility is 20%. In year one, the asset returns 20%. In year two, the asset returns -20%. What is the terminal value in year two? This time you should get it right, it is $100*(1+20%)*(1-20*)=$96. So, everything else being equal, we can say higher volatility means lower investment return.
Mathematically speaking, volatility is a drag on return.
Steve Shreve, the math professor in my quantitative finance class, would give you this formula:
Reduction in return = ½ volatility2
For instance, if the annual volatility is 20%, then the drag on annual return is ½*(20%)2=2%. This drag on return is not risk, since it is deterministic – there is nothing uncertain about it.
How to reduce volatility drag on return?
This simple answer is diversification. However, diversification requires special care. Blind diversification could do more harm than good. This is a topic best left for another article.
The author is president of MZ Capital, a RIA serving DC/MD/VA. Get his monthly newsletter in your mailbox.
Share this:
Confusing volatility and risk could cost you a bundle. Let’s take a look at returns on an investment of $1000 over 50 years from 1958-2007 in five asset classes.
- Small cap value: $3,750,000
- Small cap growth: $81,200
- Large cap value: $854,000
- Large cap growth: $130,000
- CD: $13,800
Isn’t it obvious which is the best long-term investment?
Why small cap value is the best long-term investment
So you don’t have a 50-year investment horizon? Few of us do. How about a ten-year horizon? In any ten-year period from 1958 to 2007, small cap value had much better investment results than a “safe” CD. (See Table below. Green = best result in the given ten years; red = worst.)
Table: How would $1 investment become?
| 10 year periods | Small Cap Growth | Small Cap Value | Large Cap Growth | Large Cap Value | CD |
| 1958-1967 | $5.64 | $8.02 | $3.22 | $5.39 | $1.36 |
| 1968-1977 | $0.97 | $2.66 | $1.2 | $2.64 | $1.75 |
| 1978-1987 | $3.38 | $7.84 | $3.52 | $4.96 | $2.41 |
| 1988-1997 | $2.87 | $6.47 | $5.38 | $5.13 | $1.7 |
| 1998-2007 | $1.53 | $3.47 | $1.77 | $2.36 | $1.42 |
| Annual volatility | 28.23% | 24.05% | 17.67% | 18.54% | 1.7% |
Safety paradox
Even though a FDIC guaranteed CD is perceived to be safe, over time, inflation eats away at returns. For the long-term investor – and by that we mean you – small cap value is less risky.
Why do few investors put their long-term investment in small cap value? And, when the going gets rough, why do many small-cap-value investors switch their money to CDs?
Here’s why, small cap value is highly volatile (See last row of Table) and volatility makes us anxious and jumbles our judgments.
“Volatility does not measure risk.” -Warren Buffet
Volatility becomes risk only when the investor can’t stand it anymore, and abandons an otherwise safe long-term investment. Typically, volatility is highest and its impact most painful when the market reaches bottom. Not surprisingly, many investors bail out at the worst possible time.
Upon learning that he had to sail by the Sirens – the creatures whose beautiful songs could lure him to jump to his death – Odysseus asked his sailors to tie him to a mast. What mast do you tie yourself to?
Get my monthly article in your mailbox before blog posting.
Portfolio review – uncover problems, avoid losses.
Get informed about wealth building, sign up for The Investment Scientist newsletter
Share this:
Volatility does not measure risk. The problem is that the people who have written and taught about risk do not know how to measure risk. Beta is nice because it is mathematical, it is easy to calculate and it is wrong – past volatility does not determine the risk of investing. In early 1980s, farmland that had gone for 2,000 an acre, went for $600 an acre. Beta shot up. I was apparently buying a riskier asset at $600 than at $2,000. Real estate not frequently traded. Stocks give you the ability to measure this volatility nonsense.
Because people who teach finance use the mathematics that they have learned, they translate volatility into all types of measures of risks — it’s nonsense. Risk comes from the nature of certain types of business, and from not knowing what you’re doing. If you understand the economics of the business that you’re engaged in and you trust the people you are partnering with, you’re not running significant risk.
Volatility as risk has been very useful for those who teach, never useful for us.
Get my white paper: The Informed Investor: 5 Key Concepts for Financial Success.
Get informed about wealth building, sign up for The Investment Scientist newsletter
Share this:
Retirement investment bookmarks
Posted on: April 17, 2008
Richard Conniff of MSN Money wrote about “How fear can make you lose millions.”
Blind trust in pundits could wipe you out as well. Alice Gomstyn of ABC News asked “Should you stay away from Jim Cramer?” (My answer is yes.)
Bob Klosterman explained life insurance in wealth management.
Greg Mankiw examined Barrack Obama’s tax return, he found Obama is not a fan of retirement saving.
Get informed about wealth building, sign up for The Investment Scientist newsletter
Share this:
Investor sentiment is at its lowest since 1990 and second lowest since the American Association of Individual Investors (AAII) sentiment indicator began in 1987. On 2/7/08, the 8-week moving average bull/bear spread reached the low of -25% and has since hovered below -20%. What does it mean for investors that the bull/bear spread stands at -25%? And what is the bull/bear spread?
Are you bullish, bearish, or neutral?
That’s the question asked by the AAII who has been conducting weekly market-outlook surveys of its members since 1987.
The bull/bear spread is the bullish percentage of the answers minus the bearish percentage of the answers. For instance, if 30% are bullish, but 50% are bearish, then the bull/bear spread would be 30%-50%=-20%. Since investor sentiment is very votalile, the 8-week moving averaging is used to smooth out the kinks. The AAII has 20 years of data with which we can study the relationship between investor sentiment and stock market return.
Current low investor sentiment is significant because there were only six instances (excluding this one) when it was below -15%. And only two instances when it was below -20%.
How does bearish investor sentiment relate to stock market return?
I used the small sample of six prior occasions when the bull/bear spread was below -15%. I then studied the subsequent one-year returns by the S&P 500 and the Fama/French Small Cap Value Benchmark Portfolio. The result is displayed in the table below.
| Time (8 weeks ending on ) | 8 week MA bull/bear spread | S&P 500 one year return | Small Cap Value one year return |
| 11/2/1990 | -37% | 25% | 46% |
| 2/7/2008 (this time) | -25% | ?% | ?% |
| 10/23/1992 | -21% | 12% | 40% |
| 3/13/2003 | -18% | 40% | 82% |
| 7/2/1993 | -15% | 0% | 11% |
| 7/20/2006 | -15% | 23% | 23% |
| 3/16/1990 | -15% | 9% | -2% |
| Average | -20% | 18% | 33% |
Data sources: AAII, Kenneth French data library
History shows that the worst decline is over once the indicator shows a reading of -15% or below.
One-year returns for the S&P 500 ranged from 0% to 40%, while those for the Fama/French Small Cap Value Benchmark Portfolio ranged from -2% to 82%. To the extent history repeats itself, the risk rewards of stock investing is heavily skewed toward rewards.
Warren Buffet put it best when he said: “Be greedy when others are fearful.”
Get informed about wealth building, sign up for The Investment Scientist newsletter
Share this:
6/22/2007 After Bear Stearns’ hedge funds blew up, Jim Cramer said on CNBC’s Stop Trading:
Buy Bear Stearns! …fund problem won’t spill over.
8/3/2007 According to StreetInsider, Jim Cramer made comments about Bear Stearns, saying he thinks the company shouldn’t have held a conference call to put more bad news into the market …
2/11/2007 Jim Cramer made his Lighting Round bullish calls:
I think you stick with Bear, I think this Justice Department thing will be cleared up.
3/11/2008 Before Bear Stearns’ collapse, Jim Cramer:
Bear Stearns is fine … Bear Stearns is not in trouble. Don’t be silly … Don’t move your money.
3/17/2008 After Bear Stearns’ collapse, Jim Cramer:
I said the common stock was worthless on Friday.
Share this:
Best China investment: Taiwan
Posted on: March 10, 2008
Chinese stocks are hot. Taiwanese stocks are not. That’s about to change.
Taiwan will hold its presidential election on March 22nd. Barring an extraordinary electoral surprise, Ying-jeou Ma, the candidate from the pro-business and less China-averse KMT will win the election. (Currently Ying-jeou Ma is leading with 63% in Taiwan’s political futures market.)
The relationship between China and Taiwan is best seen as a broken marriage. China wants to reconcile the rift on its own terms, and threatens consequences if that should not happen. Taiwan, on the other hand, suffers from multiple personality disorder. One part of it wants an outright divorce. The other wants to stay separated with the option of eventual reconciliation.
For the last eight years, Taiwan has been ruled by a president who favored outright divorce. His government has been responsible for hampering economic interactions between China and Taiwan. As the result, Taiwan’s economy languished exactly when China was making a great leap forward. Taiwanese stock market is basically where it was eight years ago. But many emerging economies have seen their stock markets double or even triple during that time. It’s likely we’ll see a catch-up rally once the dust settles after the election.
Even a surprise win by DPP candidate Frank Hsieh wouldn’t be that bad for Taiwanese stocks. He’s seen as a pragmatist within his party. Rhetorically, he would still want the divorce. Economically however, he wouldn’t mind sleeping with China.
Inclusion, if you want a small piece of China in your retirement investment portfolio, you can still have it cheap with a Taiwan ETF (EWT) or some Taiwan ADRs.
Related symbol: EWT
Disclosure: I own EWT
Get informed about wealth building, sign up for The Investment Scientist newsletter
Share this:
Jim Cramer:
What I’m saying is that there are bargains right now, there are stocks right now that if you’re shrewd enough, you will be able to buy them at the opening today and you’ll make money in a year from now.
It has been a year since Jim Cramer made his many picks in Mad Money Lighting Round last January. Undoubtedly, many people followed his advice buying his stock picks. To get an idea of how much money they made, I decided to do a little research.
The research is straightforward enough. I looked up the recap of Mad Money Lighting Round at SeekingAlpha.com and tabulated Jim Cramer’s bullish and bearish calls. I then calculated one-year returns from the second (market) day he made the calls.
Bullish: If a bullish call has a one year return higher than that of the S&P 500, it is a right call. If not, it’s a wrong call. Bearish: If a bearish call has a one year return lower than the S&P 500, it is a right call. Otherwise it’s a wrong call.
I calculated the accuracy of his calls by this formula: Accuracy = right call/all calls. I also determined what return a loyal Cramer follower would have made if he/she had bought all of his bullish calls and sold all of his bearish calls.
In January of 2007, Jim Cramer made a total of 194 bullish calls and 123 bearish calls. Out of the 194 bullish calls, 60 are right calls. Out of the 123 bearish calls, 53 are right calls. The accuracy of Jim Cramer’s bullish calls is 30.93% and that of his bearish calls is 43.1%. The combined accuracy is 35.6%.
During the one-year period after Jim Cramer made his calls, the S&P 500 fell an average of 3.72%, his bullish calls on average fell by 3.33% but his bearish calls actually increased by 3.11%.
The table below shows Jim Cramer’s calls on 1/3/2007 and their subsequent one year returns. You may request a complete report of all of his January 2007 calls from MZ Capital.
| Date | Bullish Calls | 1y return | Bearish Calls | 1y return | |
| 1/3/2007 | CVX | 38.46% | XOM | 31.17% | |
| MPEL | -50.53% | MOT | -20.97% | ||
| NYX | -11.22% | NOK | 86.41% | ||
| EBAY | 3.96% | HSY | -20.94% | ||
| SPG | -14.71% | ||||
| NXG | -1.89% | ||||
| AUY | 25.53% | ||||
| KRY | -32.88% | ||||
| DELL | -9.64% | ||||
| WFC | -17.58% |
Data source: SeekingAlpha.com
Research assistance: Ivy Cui
Save to Del.icio.us! ::
Digg This! ::
Stumble It! ::
Reddit!
Get informed about wealth building, sign up for The Investment Scientist newsletter
Share this:
Retirement investment bookmarks
Posted on: March 2, 2008
Janice Revell of Money Magazine makes a good case that inflation is more of a threat to your retirement than a recession.
Bob Klosterman asks if you are undermining your financial independence by overly risk-averse.
James Hamilton writes scholarly about predicting recession and stagflation.
Talking about inflation, we can’t ignore China’s role. Ebn Esterhuizen has an essay on that.
Get informed about wealth building, sign up for The Investment Scientist newsletter
Share this:
Last month, the Fed took a drastic step to cut rate twice by a total of 125 basis points. And with a drop of 225 basis points since last fall, what does this say about likely stock returns? Let’s look at the historical data.
Since 1950, the Fed cut more than 200 basis points 11 times in attempts to simulate a faltering economy. Economists believe it takes six months for the rate cuts to take effect which should last for as long as three years. Therefore I examined the one- and three-year returns of the S&P 500 Index and the Fama/French Small Cap Value benchmark portfolio for each rate-cut period.
After cuts of 200+ basis points, the average one-year return for the S&P 500 was 13.5% with two negative-return periods. The average three-year returns for the S&P 500 was 31.8% with one negative-return period.
However, the Fama/French Small Cap Value benchmark portfolio fared better. The one-year average return is 34.5% with no negative returns. The three-year average return was 100.5% with just one negative-return period.
|
Data sources: Federal Reserve, Kenneth French data library
It’s apparent from historical data that Fed rate cuts don’t guarantee making money in stocks. However, they do increase the odds of doing so— particularly with small cap value stocks. (Note: the odds of losing money with the S&P 500 index in any given year is about 30%.)
Martin Zweig once said:
Don’t fight the Fed!
That could be a very wise counsel!
Get informed about wealth building, sign up for The Investment Scientist newsletter
Save to Del.icio.us! :: Digg This! :: Stumble It! :: Reddit!
Share this:
We’re already in a recession. Or, that’s what the pundits say. They may well be right. But what will you do about it? Will you follow common wisdom and seek relative safety of large cap stocks? After all, large cap stocks are safer— right?
That’s what I had thought too, until I studied the S&P 500 and the Fama/French Small Cap Value benchmark portfolio in all nine recessions going back to 1950.
My study looked at time periods of one year and three year returns into a recession. Surprisingly, results show small cap value stocks to have both higher returns and lower risk than the S&P 500.
Here’s what happened in the one-year period from the start of all nine recessions. The S&P 500 declined three times. Yet in the same period, the Fama/French Small Cap Value benchmark portfolio was down only once.
Three years after the start of all nine recessions, the S&P 500 was under water one time. However, the Fama/French Small Cap Value benchmark portfolio fared much better by being firmly on dry land.
Get informed about wealth building, sign up for The Investment Scientist newsletter
Share this:
In the three month period between Oct 19th, 2007 and Jan 18th, 2008, the S&P 500 index fell 14.1% and the Russell 2000 Value Index fell 19.5%. To understand what is likely to happen next, I studied the top 10 worst three-month-sell-offs since 1950. These sell-offs ranged between -13% to -30%. I found that in 8 out of the 10 occasions, the S&P 500 index rebounded by more than 20% in one year. Small Cap Value stocks did even better. The Fama & French Small Cap Value Index rallied more than 30% in one year in 8 out of the 10 occasions. In the other two occasions, it increased 6.6% and 24.1% respectively. (See Table below.)
A market sell-off is not a risk
As Demonstrated by history, most of the worst market sell-offs were followed by a substantial rally within a year. Many investors panicked and fled to cash at the nadirs of the sell-offs. By the time they mustered enough courage to get back in, they had missed the rallies. If you want to achieve long-term investment success, treat a market sell-off as an opportunity, instead of a risk.
Table: One-year returns after the worst 3-month sell-offs
| 3-month period ending | 3-month decline | Subsequent S&P 500 12-month return |
Subsequent Small Value 12-month return |
| Nov 1987 | -30% | 23% | 32.7% |
| Sep 1974 | -25% | 38% | 42.4% |
| Jun 1962 | -21% | 31% | 37.9% |
| Jun 1970 | -18% | 42% | 55.4% |
| Sep 2002 | -17% | 24% | 41.4% |
| Sep 2001 | -15% | -20% | 6.6% |
| May 1962 | -14% | 23% | 30.6% |
| Oct 1990 | -14% | 34% | 49.6% |
| Oct 1957 | -13% | 30% | 50.5% |
| Nov 2000 | -13% | -12% | 24.1% |
Data sources: Fidelity MARE group, Prof. Kenneth French data library.
Get informed about wealth building, sign up for The Investment Scientist newsletter
Share this:
What you need to know now the recession is here
Do you ever get that feeling that you’d rather just stay in bed? This morning was one of those mornings. We woke up to the painful news of stock market collapses across Asia and Europe. And then, more surprising, a sudden action by the Fed cutting the interest rate by three-quarters of a percentage point (75 basis points). We never know for sure whether we’re in a recession until National Bureau of Economic Research (NBER) makes it official. That could take up to six months. But the only conclusion I can draw from the immediacy of reaction from the Fed is that if we are not in a recession right now, it’s about to happen.
So what can we expect the stock market to do during a recession-and after it? I may not have a crystal ball to see the future, but I have made an in-depth study of all nine recessions since 1950. Even if history won’t repeat itself, looking at the past half-century should give us some perspective.
Things look gloomy now, but the future is not
How long does the average recession last?
Since 1950, a typical recession lasted for ten months. The shortest one lasted for six months and the longest one lasted for 16 months. (See column 2, Table 1 below.)
What have been typical returns during past nine recessions?
Five of the nine recessions saw the S&P 500 index increased during the downturn (See column 3, Table 1 below). The average index return during recessions was 3.14%.
One year into the start of a recession, the S&P 500 index, on average, increased an anemic 2.95%. (See column4, Table 1.) Yet there are only three instances during this period when the index dropped, and the largest of these was by a painful 27%. However, the remaining six first-year periods saw the index increase. The best of these was by 25%.
By the third year of the start of a recession, the S&P 500 index on average increased 28%, which is slightly below the normal rate of return for the index. There was only one instance when the index was below the start of the recession. (See column 5, Table 1.)
Ten years into the start of a recession, the S&P 500 index on average increased 139.6%. There were no instances of the index being below the start of such a long recession. It’s worth noting 139.6% for ten years is still below the normal rate of return for the S&P 500 index. (See column 6, Table1.)
Table 1: S&P 500 returns during and after recessions
| Recessions | # of months | During R | 1 year | 3 year | 10 year |
| Jul 1953 – May 1954 | 10 | 17.94% | 25% | 100% | 179% |
| Aug 1957 – Apr1958 | 8 | -3.94% | 6% | 26% | 107% |
| Apri1960 – Feb 1961 | 10 | 16.68% | 20% | 28% | 50% |
| Dec 1969 – Nov 1970 | 12 | -5.28% | 0% | 28% | 17% |
| Nov 1973 – Mar 1975 | 16 | -13.13% | -27% | 6% | 73% |
| Jan 1980 – Jul 1980 | 6 | 6.58% | 13% | 27% | 188% |
| Jul 1981 – Nov 1982 | 16 | 5.81% | -18% | 15% | 196% |
| Jul 1990 – Mar 1991 | 8 | 5.35% | 9% | 26% | 302% |
| Mar 2001 – Nov 2001 | 8 | -1.80% | -1% | -3% | |
| Average | 10 | 3.14% | 2.95% | 28.20% | 139.16% |
| Current recession started Dec 2007 | 18 | -34.8% | -39.2% | -9.9% | ? |
Get my white paper: The Informed Investor: 5 Key Concepts for Financial Success.
Small cap value stocks will do better, if history repeats itself
I’ve used the Small-Cap Value Index constructed by Fama and French to study the effect of recession on small cap value stocks for the last nine recessions since 1950.
On average, the Small-Cap Value Index returned 11.39% during a recession. During those recssion periods, the returns of the Small-Cap Value Index ranged from barely dropping (-2.17% in the ’69 recession) to strongly rallying (38% in the ’81 recession). (See column 2, Table 2 below.)
One year into the start of a recession, the index on average returned 13.21% with only one instance of index decrease. (See column 3, Table 2.)
Three years into the start of a recession, the index on average returned 76.21%with 31% being the worst return. (See column 4, Table 2.)
Ten years into the start of a recession, the index on average returned 506.26% with 312% being the worst return and 1183% being the best. (See column 5, Table 2.)
The reason I recommend my long-term approach and staying with small cap value stocks is because of these results.
Table 2: Small cap value returns during and after recessions
| Recessions | During R | 1 year | 3 year | 10 year | |
| Jul 1953 – May 1954 | 10.11% | 21% | 100% | 362% | |
| Aug 1957 – Apr 1958 | -0.56% | 18% | 63% | 517% | |
| Apr 1960 – Feb1961 | 21.72% | 32% | 46% | 343% | |
| Dec1969 – Nov 1970 | -2.17% | 7% | 31% | 312% | |
| Nov 1973 – Mar 1975 | 17.81% | -13% | 86% | 1183% | |
| Jan 1980 – Jul 1980 | 3.11% | 15% | 96% | 499% | |
| Jul 1981 – Nov1982 | 38.29% | 0% | 95% | 387% | |
| Jul 1990 – Mar 1991 | 5.52% | 9% | 83% | 448% | |
| Mar 2001 – Nov 2001 | 8.68% | 31% | 86% | ||
| Average | 11.39% | 13.21% | 76.21% | 506.26% | |
How shall we learn from history?
We can take the short view. In the last six months, the S&P 500 has dropped more than 15%. The Small-Cap Value Index has dropped more than 25%. Should we conclude that at this rate, all investment in stocks will be lost in two to three years?
Should you panic now?
The answer is no. But that’s precisely what many investors are doing now by taking money out of the market or rotating them to stocks they perceive to be safer. There is a better way to learn from history.
Take the long view
If you want to sleep well while building your wealth for the long term, you must take the long view of history. Then you’ll be more like Warren Buffet and John Bogle who see the current market madness as normal and transitory. William Shakespeare could well have been talking about the emotional turmoil of the market when he wrote,
It’s like a tale told by an idiot, full of sound and fury, but signifying nothing.
Sleep well, take the long view.
Get my white paper: The Informed Investor: 5 Key Concepts for Financial Success.
Get informed about wealth building, sign up for The Investment Scientist newsletter
Share this:
By the end of 2006, Small Cap Value stocks had completed a historical 7 year run of outperformance relative to Large Cap Growth stocks. According to Prof Kenneth French’s data library, during this 7 years, Large Cap Growth returned a total of -10.35% while Small Cap Value returned a total of 266%!
2007 however saw a drastic reversal. In the first 10 months alone, Large Cap Growth has outperformed Small Cap Value by a whopping 18%! If you are a Small Cap Value investor and you are nervous, you are not alone. How much longer and how much more will Small Cap Value uncerperform? To get a handle of these issues, it is helpful to get a historical perspective.
Based on the data on Fama/French benchmark portfolios in Prof. French’s data library, and by comparing the yearly performances of the Small Cap Value portfolio and the Large Cap Growth portfolio since 1960, I obtained the following results:
1. 75% of the years, Small Cap Value outperformed; 25% of the years, Large Cap Growth outperformed.
2. $1000 invested in Small Cap Value on 1/1/1960 would grow to $1.7mm on 12/31/2006! In comparison, $1000 invested in Large Cap Growth on 1/1/1960 would grow to only $66k.
3. There are 8 occurrences of Large Cap Growth outperformance. 3 lasted for one year, 3 lasted for two years and 2 lasted for 3 years.
Get informed about wealth building, sign up for The Investment Scientist newsletter
The Investment Scientist 