Showing papers by "Robert D. Arnott published in 2013"
TL;DR: In this article, the authors show that inverting these portfolio-construction algorithms does not reverse the outperformance, and that the upside-down strategies often outperform the original ones, driven by the phenomenon that seemingly unrelated, non-value-based strategies and their inverted counterparts often have unintended and almost unavoidable value and small-cap tilts.
Abstract: Recent index literature is replete with innovations that are based on quantitative strategies and predicated on sensible investment beliefs. Empirical studies confirm that these strategies deliver economically large and statistically significant excess returns over cap-weighted market benchmarks in nearly all regions and countries, over long periods of time. In this article, the authors show that inverting these portfolio-construction algorithms does not reverse the out-performance. Indeed, the upside-down strategies often outperform the originals. This paradoxical result is driven by the phenomenon that seemingly unrelated, non-value-based strategies and their inverted counterparts often have unintended and almost unavoidable value and small-cap tilts. Even Burt Malkiel’s legendary blindfolded monkey, throwing darts at the Wall Street Journal’s stock page, would produce a portfolio with a substantial value- and small-cap bias that would have historically outperformed the S&P 500. The value and small-cap tilts stem from the fact that non-price-based weighting schemes sever the link between a company’s share price and its weight in the portfolio. Clearly, the inverted strategy of a non-price-weighted strategy is still a non-price-weighted strategy, would con-sequently have a value and small-cap tilt, and would there-fore have outperformed historically.
45 citations
Posted Content•
TL;DR: In this article, the authors summarize the flaws in traditional glidepath implementation and explore illustrative changes to the rules-based, mechanistic solution for retirement planning that can improve the expected outcome for investors.
Abstract: Target date investment strategies purport to meet the two primary objectives of any retirement savings program: maximize the real value of our nest egg, while minimizing uncertainty around the prospective income we’ll have at our disposal as we approach our retirement years. Unfortunately, the classic glidepath approach to retirement investing – moving from equity-centric to bond-centric investing as we age – does not meet these objectives. We summarize the flaws in traditional glidepath implementation and explore illustrative changes to the rules-based, mechanistic solution for retirement planning that can improve the expected outcome for investors. We use simulations to test alternatives and find the following. First, rebalancing to a static mix beats a gradual shift to bonds (or equities for that matter, since the solutions are not linked to expected market environments). Second, adjusting the risk profile within stock and bond portfolios rather than across asset classes reins in risk more constructively than the classic glidepath solution. Third, incorporating valuation-indifferent equity strategies improves the historical performance of the solutions relative to alternatives built using cap-weighted equity indices. Even with simplistic, rules-based approaches, we find there are better ways to achieve our financial objectives for retirement.
41 citations
TL;DR: In this paper, the authors demonstrate that the classic glidepath approach to retirement investing, moving from equity-centric to bond-centric investing as we age, does not meet the two primary objectives of any retirement savings program: maximizing the real value of investors' nest eggs while minimizing uncertainty around prospective income in retirement.
Abstract: Target-date investment strategies purport to meet the two primary objectives of any retirement savings program: maximizing the real value of investors’ nest eggs while minimizing uncertainty around prospective income in retirement. The authors demonstrate that the classic glidepath approach to retirement investing—moving from equity-centric to bond-centric investing as we age—does not meet these objectives. The authors summarize the flaws in traditional glidepath implementation and explore illustrative changes to the rules-based, mechanistic solution for retirement planning that can improve the expected outcome for investors, using simulations to test alternatives. Their findings show that, even with simple rules-based approaches, there are better ways to achieve our financial objectives for retirement.
32 citations
TL;DR: In this article, the authors compute the discount rate a clairvoyant investor must accept to justify the current price of a stock to gain insight into the extent to which variations in expected returns may explain pricing.
Abstract: In 2009, Arnott, Li, and Sherrerd asked how a clairvoyant investor—an investor who can see the future cash flows that a company will deliver to its shareholders and an eventual resale price—would have valued individual stocks. By examining past share prices in the context of subsequent dividends, the authors garnered insights into how well market prices predict future company success (impressively well) and how correctly the market prices growth versus value (impressively badly). This article reverses the analysis, computing the discount rate a clairvoyant investor must accept to justify the current price. The goal is to gain insight into the extent to which variations in expected returns may explain pricing. These “clairvoyant discount rates” fall in a distribution that sheds new light on value and size effects. A shockingly low discount rate, often lower than the cash yield, must apply for the richest growth stocks to justify their historical valuations. The size effect is not driven by a higher average return for small companies, but by a handful of extreme outliers. These results cast doubt on the notion that the size and value effects can be a result of cross-sectional differences in discount rates in an efficient market.
6 citations
4 citations
Posted Content•
TL;DR: The authors showed that the historically unmatched economic performance experienced by developed countries over the past 60 years was supported by temporary and abnormal demographic conditions: extraordinary growth in the working-age population supporting both a plunging roster of young people as well as a still-modest roster of senior citizens.
Abstract: In this paper, we show that the historically unmatched economic performance experienced by developed countries over the past 60 years was supported by temporary and abnormal demographic conditions: extraordinary growth in the working-age population supporting both a plunging roster of young people as well as a still-modest roster of senior citizens. In other words, we have experienced a one-off demographic dividend of massive proportions.
1 citations
31 Oct 2013
TL;DR: The Surprising Alpha from Malkiel's Monkey and Upside-Down Strategies as discussed by the authors, which appeared in the Summer 2013 issue of The Journal of Portfolio Management, is a good example of a smart-beta strategy that may inadvertently allow price to influence the weight.
Abstract: Turn your smart beta strategy upside down and you are likely to find a surprise! In this context, practical considerations become a defining issue. For example, be skeptical of suggestions that any particular smart beta methodology has compelling performance advantages, caution the authors of The Surprising Alpha from Malkiel’s Monkey and Upside-Down Strategies , which appeared in the Summer 2013 issue of The Journal of Portfolio Management . Be wary of smart beta strategies that may inadvertently allow price to influence the weight, they advise. But these suggestions are only part of the story. In an exclusive interview for this Practical Applications report, Robert Arnott explains that exposure to value and small-cap stocks is what drives the excess return of these smart beta strategies over the market-cap-weighted benchmark. Arnott is Chairman and CEO at Research Affiliates . His co-authors are Jason Hsu and Vitali Kalesnik , also at Research Affiliates , and Phil Tindall , Senior Investment Consultant at Towers Watson .
1 citations
Posted Content•