A Good Paper on "Return Factors"

Robert Haugen is one of (if not THE) best-known figure in the behavioral finance (i.e. "markets are not efficient") camp. He wrote one of the earliest books on the topic in 1995 (The New Finance) and runs a quantitative finance shop based on much of his research. In a recent paper with Nardin Baker of UC-Irvine, he examines the explanatory and predictive ability of a wide array of observable factors. Here's the abstract

This article provides conclusive evidence that the U.S. stock market is highly inefficient. Our results, spanning a 45 year period, indicate dramatic, consistent, and negative payoffs to measures of risk, positive payoffs to measures of current profitability, positive payoffs to measures of cheapness, positive payoffs to momentum in stock return, and negative payoffs to recent stock performance. Our comprehensive expected return factor model successfully predicts future return, out of sample, in each of the forty-five years covered by our study save one. Stunningly, the ten percent of stocks with highest expected return, in aggregate, are low risk and highly profitable, with positive trends in profitability. They are cheap relative to current earnings, cash flow, sales, and dividends. They have relatively large market capitalization and positive price momentum over the previous year. The ten percent with lowest expected return (decile 1) have exactly the opposite profile, and we find a smooth transition in the profiles as we go from 1 through 10. We split the whole 45-year time period into five sub-periods, and find that the relative profiles hold over all periods. Undeniably, the highest expected return stocks are, collectively, highly attractive; the lowest expected return stocks are very scary - results fatal to the efficient market hypothesis. While this evidence is consistent with risk loving in the cross-section, we also present strong evidence consistent with risk aversion in the market aggregate's longitudinal behavior. These behaviors cannot simultaneously exist in an efficient market.

Here are some of the factors that they find statistically significant:

• Price Multiples such as price to cash flow, sales, book value, and earnings (negative relationship with subsequent returns
  
• Profitabiliy measures such as ROE, ROA, and Profit Margins (positive relationship)
• Volatility in returns, whether "raw" or "residual" (negative relationship)
• Momentum (positive relationship)
• Recent returns (positive rel;ationship with last year's return, negative with last month's return, and last month's "residual" return)

Read the whole thing here

It's worth reading. Haugen is clearly not an ubiased observer (he does run a shop based on the idea that markets are inefficient), and there's definitely some serious data mining going on here. Having said that, it's definitely worth reading. It gives a very good summary of many of the factors that prior research has found to be significantly related to subsequent returns. I'll be making the next group of student in Unknown University's student-managed fund read it.

HT: Empirical Finance Research

It Is Done, And Yet Also Just Beginning (updates)

At 1:55 this morning, the Unknown Son (his name is Jonathan, by the way) eased away and stopped breathing. Our son has finally let loose the bonds of earth and gone home. No more suffering, no more limitations, and no more cancer. He now rests in the lap of the Father with his cousins Jacob and Jennifer. And that's NOT a figure of speech - it's a description.

It's been a tough time - 2,439 days since his diagnosis on 10/1/2002. After gallons of chemotherapy, multiple surgeries, and visits to six hospitals, our son is finally free. After years of pain and limitations, he can now run without tiring, jump without limits, and stay up as long as he wants.

We miss him, and will every day for the rest of our earthly lives. But believe it or not, it's not all grief (but there is that). We're glad that his pain and struggles are over. But now he doesn't just have the absence of pain. He has JOY. For him, this isn't the end - merely the end of the beginning. We know that we'll be together again.

If you know us in our "real" lives and would like to read our son;s story (or just want directions to the memorial service Saturday), send me an email.

UPDATE:

Since many of you have have asked, our charity of choice is: The Tomorrow Fund, 593 Eddy St., Providence, RI 02903. Put "Jonathan" in the note of the check. They're affiliated with Hasbro Children's Hospital where Jonathan had a significant part of his treatment done, and they're a very worthy recipient of any donations - they both support research in cancer and provide a lot of support (financial, emotional, etc...) to families of children undergoing treatment. They'll allow us to choose the manner in which the funds will be spent (probably something relating to computers, books, or videos), so that we can come up with something that really captures something of who Jonathan is.

A Fairly High Profile (Non) Tenure Case

Inside Higher Education profiles the tenure case of Boyce Watkins, an untenured African-American assistant finance professor at Syracuse University. He was recently denied tenure.

What make his case interesting is that he's been quite possibly one of the highest-profile assistant professors at a non-tier1 school I've ever seen. He's got a list of media appearances longer than my arm (heck - longer than both arms), all of which you can see on his website here. His research record has been fairly good (not outstanding, but not terrible), with a couple of solid b-level publications (both sole-authored), and a number of pubs in lower-tier outlets.

My take is that he ruffled feathers. Whether fair or not, most assistant professor are not clear slam-dunks for tenure. Since most are therefore somewhere near the margin, the non-publishing things end up having a disproportionate impact. So, having a reputation for being a "good" colleague makes a big impact at most schools. This means having at least a few people who will have your back and almost no one who's looking to stick a knife in it.

So, I can understand Dr. Watkins not getting tenure. I don't necessarily agree with it, but I understand it.

And yes, this is one of the reasons I blog under a pseudonym. Maybe after tenure, I'll change. But for now, I'll play defense, thank you very much.

Tough Times Ahead

This tough to write. The recent post on the Unknown Son's treatment was somewhat encouraging. In the blink of an eye, this one turns our lives around 180 degrees.

This morning, Unknown Son tried to go for a walk around the hospital unit (the walking helps expand the lungs, and would speed his recovery). We noticed after a few steps that his left leg was dragging. We put him back in bed, and he was unable to squeeze my hand with his left hand. A quick CT scan followed, and revealed that the cancer had spread to his brain – in three separate spots. We hadn't known this previously since all our scans had been focused on his chest region. One was pretty large, and since it was on the right side, it was the likely cause of the problems with his left leg, arm, and hand.

This changes everything – he now likely has a matter of days rather than weeks. We gave him some radiation to see if we could slow the swelling, but at best that only buys a bit of time. So, we took him home tonight in an ambulance so that he can be in familiar settings and be as comfortable and safe as possible in the short time he has left with us.

In the meanwhile, The Unknown Wife's mother and father and one of her sisters are here. Her other sister and her family (and my mother, brothers and sister) are coming down tomorrow to lend support and see the boy.

Please keep us in your prayers as we ease his transition. For him, this is not the beginning of the end of his life – only the end of the beginning. But even though we know that he's going to a place with no more pain or limitations, and only joy, it’s going to be a rough week or so for us – likely the toughest we’ll ever have to go through.

So keep us in your prayers.

Rediscovering Late Night TV

The Unknown Wife is a morning person, and I'm a night owl. So, I usually get the later feedings for the Unknown Baby Boy. He gets fed around 8 or 9, and then I hang out until his next feeding (sometime between 11 and 1). The little guy usually sleep for 4 hours, and the Unknown Wife takes the next feeding. Since she drops off around 9, she gets a good 6-7 hour uninterrupted sleep stretch.

Because of the schedule, I'm up until 12 or 1 most nights. I do a little work on the computer (o.k., a lot of web-surfing and a little work, but let's not quibble). But I've also gotten reacquainted with late-night television. Between Deadliest Warrior, the UFC (and WEC) and 1,000 Ways To Die, (thank you, Spike TV) I get my guy stuff out of the way while Unknown Wife is already asleep.

Who knows - maybe it'll have a subliminal effect on Unknown Baby Boy.

Students Sitting For the CFA Exams

I just realized that I have at least six students that I know of sitting for the CFA exams in a couple of days. Three are sitting for Level 1 - all either graduated this past month or last December, and three are sitting for Level 2 (they graduated either last June or last December). There are a couple of other former students who'd indicated they might be taking the Level 1 exam, but that was a while back and I hadn't heard from them since.

Good luck, one and all.

Bad Biopsy News

About a week back, the Unknown Son had a CT scan that showed some suspicious spots in his right lung. He had his biopsy today.

Unfortunately, the news wasn't good. His cancer (Wilms Tumor) has recurred. According to the surgeon, there was at least one clear tumor (pea-sized) in his right lung, and clear evidence that it had also metastasized into some of the lymph nodes. I'm currently in the ICU with him as he recovers from the biopsy, and I'll spend the night (the Unknown Mom will take over tomorrow).

He's awake and in good spirits. Looks like we'll be watching Sponge Bob DVDs for a while longer, followed (hopefully) by sleep).

I'll post more information as I get it.

update: It's the morning after, and he's doing well - his fever has broken, he's talking up a storm, getting all the tubes out except for his chest drainage tube, and about to start drinking fluids on his own.