(Pictured: Jason Hsu)
by Greg Bright
In the 1990s Russell Investments launched two ASX indices in Australia, a Russell Value Index and a Russell Growth Index. They shut them down a few years later because no-one wanted to pay for this information. I’m starting to wonder whether the very notion of ‘value’ and ‘growth’ has subsequently become meaningless.
Research Affiliates of the US, the managers of the RAFI (Research Affiliates Fundamental Index and other smart beta indices), published a research note last week calling into question active management in a value investing style. After all, they said, value investing is the undisputed champion of all investing anomalies, proven for about 90 years! But, for the last 23 years, the excess return from the average value mutual fund manager has been “meaningfully negative”. It’s a thoughtful and well-written piece. (view PDF here)
Jason Hsu, of Research Affiliates, says that his firm’s research shows that value mutual funds, studied between 1991 and 2013, did not earn anywhere near the reported value premium, even before fees and charges.
They did actually outperform the S&P 500 before fees, if they were allowed to buy and hold portfolios for the research period, but only by 39bps. But on a “dollar-weighted” return basis, which is what the investors receive when allowed to enter and leave the mutual fund during the research period – which is what happens in real life – they got 139bps less than the index.
This is where I started to think: this research, which is supposed to be about investment style, is more about other things – things such as transaction costs, investor biases of buying high and selling low and the general criticisms you get by index managers of their active counterparts. The value premium mean reverts and if an investor doesn’t hang on through a cycle he/she will lose out. With retail investors, such as those in US mutual funds, the urge to buy and sell at inappropriate times is very strong.
Hsu’s research note, ‘Woe Betide the Value Investor’, says that the dollar-weighted returns for growth funds are “even worse”. The buy-and-hold returns of both value and growth funds, as well as large-cap and small-cap funds, are higher than the dollar-weighted returns. It’s not so much the managers’ lack of skill but rather their clients’ behaviour that’s the big problem.
This should not surprise many industry practitioners. Hsu’s research note, however, does provide an insight: the research indicates that the value premium is unlikely to be arbitraged away any time soon. And, yes, it still exists.
