A battle is raging among finance theoreticians, and investors should stay out of it.
There’s a growing recognition that a handful of active investing styles — also known as factor investing or smart beta — can be expected to beat the market over time. Among them are value (buying cheap stocks), quality (buying profitable and stable companies), momentum (following the trend) and size (buying small companies).
The evidence is compelling. The cheapest 10 percent of U.S. stocks — sorted on price-to-book ratio and then weighted by market capitalization — returned 11.9 percent annually from July 1926 through March, including dividends, according to numbers compiled by Dartmouth professor Kenneth French. That’s 1.8 percentage points a year better than the S&P 500 Index during those nine decades and 3.1 percentage points a year better than the most expensive 10 percent of stocks.
Value also won over shorter periods. The cheapest 10 percent of stocks beat the S&P 500 roughly 72 percent of the time over rolling 10-year periods, and they beat the most expensive 10 percent of stocks 73 percent of the time.
The results are similar for stocks sorted on profitability, momentum and size.
Continue reading “Investors Can Miss the Forest for the Smart Beta Trees”
U.S. stocks have been shaky lately. Volatility spiked in February after years of calm, and the market continues to be bumpy. Meanwhile, the S&P 500 Index has gone nowhere this year, down 1 percent through Monday.
Investors, however, needn’t fear that the recent volatility will turn into a rout because “the fundamentals are strong.” Or at least, that’s the refrain Wall Street analysts never tire of crooning for investors.
Continue reading “Stocks’ Fundamental Swings Still Apply as Time Goes By”
Apologists for high U.S. stock prices just lost their favorite defense.
Ten-year Treasury yields rose above 3 percent on Tuesday for the first time since 2014, and bond investors are hysterical. Chris Verrone, head of technical analysis at Strategas Research Partners, told Bloomberg Television on Monday that breaching 3 percent would ring in “a 35-year trend change in bonds” in which investors in long-term bonds would stop making money.
Let’s take a breath. For one thing, no one knows where interest rates are headed. Moreover, bond investors need not fear rising rates. Yes, bond prices decline when interest rates rise, but higher rates also mean higher yields on new bonds. Over time, those higher yields should more than offset lower prices.
Continue reading “Stock Buyers Lose Bond Foundation for Steep Valuations”
It’s time for financial professionals to become a profession in substance, not just in name.
The Securities and Exchange Commission proposed new rules for brokers and financial advisers last week. Observers have understandably focused on the big change, which requires brokers to disclose their conflicts and look after clients’ best interests.
But a more modest proposal deserves discussion. Namely, the SEC would subject financial advisers to continuing education requirements.
It’s a wise move. Financial innovation is happening at a dizzying pace. More investment options are available today than ever before, spanning many different types of assets, geographies and investing styles, and new products are coming to market all the time.
That’s a challenge for an aging industry. The average age of financial advisers is 50, according to Cerulli Associates, and just 11.7 percent of advisers are younger than 35. Whatever advisers learned when they were trained for the job decades ago is most likely outdated.
Continue reading “Financial Advisers Need Steady Learning to Keep Earning”
The Securities and Exchange Commission just threw brokers a lifeline. They should grab it.
Brokers’ troubles began in April 2015, when the Department of Labor first proposed its so-called fiduciary rule. The rule, which was issued a year later, requires brokers to act as, well, fiduciaries — or to put their clients’ interests ahead of their own — when handling retirement accounts.
It was a big departure from business as usual. Fund companies and other purveyors of financial products typically pay brokers to sell their wares, which means brokers are incentivized to recommend those that pay them the most, not necessarily those that are in their clients’ best interests. The naked conflict doesn’t exactly promote trust, so brokers aren’t quick to disclose it to clients.
All of that would obviously have to change under the fiduciary rule, and brokers fought back. They insisted they’re merely salespeople, dutifully executing orders for clients. And because they don’t give financial advice, there’s nothing wrong with selling the products that hand them the biggest bounty.
Continue reading “The SEC Just Did Brokers a Huge Favor”
It’s not easy being a socially conscious investor. To see why, look no further than Facebook Inc.
By any reasonable ethical standard, the social media giant doesn’t measure up. The Cambridge Analytica debacle and its aftermath revealed that Facebook is collecting far more information on its users — and even non-users — than it let on. And, as my colleague Shira Ovide pointed out, when CEO Mark Zuckerberg had the opportunity to come clean last week during two days of congressional testimony, he ducked questions about how the company operates.
Facebook’s wily ways appear to be catching up to it. According to a March 21-23 Reuters/Ipsos poll, only 41 percent of Americans “trust Facebook to obey laws that protect their personal information.” An April 8-9 SurveyMonkey/Recode poll askedrespondents which technology company they least trust with their personal information among Amazon, Apple, Facebook, Google, Lyft, Microsoft, Netflix, Tesla, Twitter, Snap and Uber, and 56 percent chose Facebook. The runner-up was Google, with just 5 percent.
Given all the questions surrounding Facebook, investors may be surprised to learn that its stock is commonly held by so-called socially responsible funds, which invest in companies deemed to be good citizens.
The biggest such exchange-traded fund — the iShares MSCI KLD 400 Social ETF, with $1 billion in assets — bills itself as an “exposure to socially responsible U.S. companies” and urges investors to use the fund to “invest based on your personal values.” The fund has a 3.5 percent allocation to Facebook.
Continue reading “Investing in Virtue Is Hard When So Few Companies Measure Up”
Hedge funds’ brightest lights have fallen on hard times, but don’t shed a tear for the industry just yet.
The list of once-revered-now-humbled hedge fund managers is growing. Alan Fournier is shutting Pennant Capital Management after nearly two decades, acknowledging that “recent returns have been disappointing.” David Einhorn’s main hedge fund at Greenlight Capital was down 14 percent in the first quarter after a decline of 4.1 percent annually from 2015 to 2017. Pershing Square Capital Management’s Bill Ackman calledhis recent returns “particularly unsatisfactory,” and investors apparently agree. Ackman’s assets under management shrank to $8.2 billion as of March from $18.3 billion in 2015.
Despite the travails of star managers, however, the hedge fund industry is doing fine. The HFRI Fund Weighted Composite Index returned 0.3 percent during the first quarter, compared with a negative 0.8 percent for the S&P 500 Index, including dividends.
Granted, hedge funds haven’t kept pace with the stock market in recent years, but they’ve fared better than many of the stars among them. The HFRI index has returned 4 percent annually from 2015 through March, compared with 10.2 percent for the S&P 500.
Continue reading “Hedge Funds No Longer Need the Star System”
Watch volatility spike, and then watch investors scatter for safety. Only this time, they don’t seem to know where to hide.
After years of calm, market turbulence has returned. The annualized daily standard deviation of the S&P 500 Index — a common measure of volatility — has been 18.6 percent from 1928 through March. But the market was much quieter from 2012 through January, with a standard deviation of 12 percent.
That quiet ended abruptly in February. The S&P 500 tumbled 8.5 percent in just five trading days from Feb. 2 to Feb. 8, and its standard deviation has spiked to 23.4 percent since February.
Continue reading “Classic Safe Haven Hides in Plain Sight”
Facebook’s true value resides in its 2.1 billion users, and investors need to worry about what happens if enough of them decide that free social media isn’t worth the cost.
First, a disclosure: I’ve never used Facebook. I get that it’s an awesome way to keep in touch with family and friends, meet new people and get a personalized online experience. But I value my privacy, and it’s hard to reconcile that with the fact that Facebook is in the business of selling its users’ information.
And it’s a great business. Facebook generated earnings from continuing operations of $15.9 billion in 2017 on revenue of $40.7 billion, 98 percent of which came from advertising.
If it isn’t already obvious that Facebook is a money-making dynamo, consider how it stacks up with digital ad rival Alphabet Inc., the parent of Google. Facebook’s gross margin was 87 percent last year, and its net income margin was 39 percent. That compares with 59 percent and 11 percent, respectively, for Alphabet.
Continue reading “Users Built Facebook’s Empire, and They Can Crumble It”
Theranos did no favors for its investors, but it may have unwittingly helped the next generation of innovators.
The Securities and Exchange Commission last week accused the company and its CEO, Elizabeth Holmes, of misleading investors. According to the SEC’s complaint, Theranos lied about the capabilities of its blood-testing technology on its way to raising $700 million from 2013 to 2015.
As my Gadfly colleague Max Nisen rightly pointed out, “the sheer extent and audacity of the fraud perpetrated by Theranos’s leaders separates it from the pack.” But Theranos couldn’t have pulled off its elaborate fraud without the help of two larger forces.
The first is investors’ eagerness to throw money at startups on a scale that not long ago was available only to publicly traded companies. So-called unicorns — startups valued at $1 billion or more — raised $70 billion from 2014 to 2017, including a record $19.6 billion last year, according to financial data company PitchBook. To put that in perspective, that’s roughly three-quarters of the total net flow to all U.S. mutual funds over those four years, according to fund flows compiled by Bloomberg Intelligence.
Continue reading “Theranos Crackdown Offers Welcome Check on Tech Startup Frenzy”