What drives investment returns?
Posted by: Nicola Macdonald, on May 3, 2016.
One of the most influential people in the field of finance is Eugene Fama, a professor at the University of Chicago and Nobel laureate in Economic Sciences. He and other academics have devoted their careers to understanding what drives investment returns.
A philosophy based on decades of evidence
Their aim is to identify what information in prices explains differences in returns. Fama and his long-standing collaborator, Ken French, are known and respected for providing evidence that shares offer better long-term returns than bonds and that differences in stock returns can be explained by the company’s size, relative price, profitability and how much it reinvests.
Of his life-long research Fama says, “I’ve been at this 55 years, including my time as a student. During that period, we have come up with maybe five different factors that seem to be pretty robust. That’s one a decade.”
Professor Eugene Fama explains The Holy Grail.
It is around the work of Fama, French and other researchers that we base our investment philosophy and process. That pace of discovery is a reflection of the diligence of their research and the quality of its output.
Why is this particularly relevant now?
Having fallen 10 per cent between the beginning of the year and mid-February, many markets around the world had recovered their losses by the end of March. There was a lot of noise in the papers about the downward slide, but very little about the equally dramatic recovery. This uneven reporting can be unsettling for investors who lack a firm discipline.
Our discipline is a direct result of having a strong philosophy based on robust empirical research.
We understand that markets have persistently rewarded patient long-term investors, and that short-term movements do little to explain long-term trends. We believe we understand where returns come from and we take comfort in this knowledge when markets are noisy, as they have been so far in 2016.
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