As advisors, we sometimes forget the basics: a stock represents a fractional ownership interest in a publicly traded corporation. Historically, returns have been higher for owners and partial owners (stocks) than someone who lent money (notes and bonds). Stocks can be characterized by size (capitalization): small cap, medium cap, and large cap. A publicly traded company’s capitalization is calculated by multiplying the price per share by the number of outstanding shares of stock.
Certified Fund Specialist
Arnott (1993) and Odelbo (1995)
Arnott (1993) reviewed characteristics of equity funds with superior returns, finding 17 actively-managed large cap funds outperforming their benchmark in 37 out of 49 rolling 5-year periods ending 1993. A paper by Odelbo (1995) found great stock fund managers did not exclusively follow one investment style while looking for undervalued stocks. The author also found there was no statistical evidence of their superior performance.
Chevalier and Ellison (1999)
A cornerstone of indexing advocates is based on securities markets being efficient. Barron’s defines the efficient markets theory: “…market prices reflect the knowledge and expectations of all investors. Those who adhere to this theory consider it futile to seek undervalued stocks or to forecast market movements.
Wells Fargo Investment Advisors were the first to use indexed portfolios for some of their institutional pension plans from 1969-1971. The Vanguard 500 Index Fund was the first U.S. index fund offered to individual investors. Beginning in 1976, the fund did not reach $10 billion in assets for almost 20 years.
A fund’s duration can sometimes be a misleading measurement of interest rate risk if the bond fund has a meaningful weighting in convertibles, foreign stocks and bonds or derivatives. Haslem (2003) believes duration is a more accurate measurement when there are small interest rate changes. Duration tends to better reflect interest rate risk of portfolios of high quality bonds.
Fund popularity can be measured by percentage change in net cash flow over a stated period. Barbee (1999b) discovered unpopular funds had higher returns than popular funds from 1987-1998. Specifically, over 3-year periods, unpopular funds typically outperformed 78% of the time. In a separate paper, Ibbotson concluded picking funds that will outperform their benchmark is easier than trying to determine what investment style will perform best.
Bogle (1999b) concluded 92% of return shortfall for active managers was due to expenses. Expense ratio shows the percentage of fund assets annually spent for overhead (i.e., shareholder services, rent, administrative salaries, etc.) and management. The expense ratio does not include trading costs or reflect any bid-ask spread and does not include any sales commissions or purchase or redemption fees. According to Zweig (1997b), management (advisory) fees represent 60%+ of the total expense ratio.
In general, a currency futures contract locks in the exchange rate between two currencies. A company in one country selling products in another country can eliminate currency risk by purchasing a sufficient number of such futures contracts. Currency gains and losses represent a “difference in exchange value of the foreign currency and the domestic currency between the time the investment was bought and time it was sold” (Barron’s, 2014).
S&P 500 Sectors: Beta, Correlation, R2 & Weightings
Most of the information from Table 5 comes from State Street’s SPDR ETF website. SPDR ETF symbols are shown in parentheses. R2 figures are from Morningstar and represent fund categories; not shown are precious metals funds (R2 = 12) and natural resource funds (R2 = 77).
S&P 500 Sector Stats, November 2015
SPDR ETF Sector (symbol)