February 24th, 2013

Fama and French taught us something very important about risk and investing. What did they teach us?

8 thoughts on “February 24th, 2013”

  1. Katherine Graham says:

    Fama and French taught us to factor in the market risk factor in the capital asset pricing model (CAPM), as well as factoring in size and value factors. By including size and value, Fama and French adjusts for the outperformance tendency. Many people think the outperformance tendency makes it a better tool for evaluating manager performance.

  2. Mike Finley says:

    Nice job, Katherine. This was a tough question. Let me add to the discussion. Just as you stated, Fama and French back in 1992 taught us there were three risk factors to consider when investing in stocks. The market (how much in the way of stocks we own). Size (small companies deliver a return of 3% higher over long periods of time). Finally, value (cheap and kind of sick companies deliver a 5% return over the market over long periods of time). This was big news, but what can we do about it?

    It is logical to overweight (own more than what the market actually provides) our portfolio to emphasize small and value stocks. This can increase return over time, but we must be patient and willing to wait it out (in any given year or decade you may see little to no affect).

    Here is how it works. You decide to own the Total Stock Market Index Fund (this will track the entire U.S. stock market). Now you add 10 to 20% of your portfolio in small cap index funds and another 10 to 20% in value funds. Congratulations, your returns will probably be much higher over time (20 years and more). Let’s take a look at a real life example. You own the total stock market fund in your 401K at work (you might want to take 20% of that and put it in an international index fund if available). All of your contributions go into that one fund and it is your largest holding. Next, you open a Roth IRA at Vanguard and place half of your money in a small cap index fund and the other half in a value index fund.

    Fama and French provided us the answer. It’s up to us to act on those answers. ACT!!!!!!

  3. Alejandro says:

    These i-bankers have been understating the whole crdiet crisis issue since last summer.The higher mortgage bond weighting in Bill Gross’ portfolio is likely a reflection of the extreme mispricing in those assets rather than an indication of the end of the financial storm. In fact, the housing market is still in the midst of a huge wave of foreclosure which will for sure depress housing prices even further. This will of course adversely affect the US economy substantially. In the next few months we will see the real impact of financial markets’ bad news on main street America.

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