October 25, 2014 Admin | October 25, 2014 What does the research from Fama and French tell us? How can we apply it to our portfolio? Why should we?
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Fama and French tell you that if you weight your portfolio towards small cap value companies you will have a better return on stocks. You can do this by buying the small cap value index fund at vangaurd and holding that along with your other stocks. You may want to hold and extra few thousand in small cap stocks to capture the gains they provide to your portfolio. This will make your portfolio a little more risky in the short term but the portfolio can bet better then the parts of it, small caps can go very well with many other assets, you just would likely not want to hold nothing but small cap value stocks.
Well said, Garrett. Let’s review.
The research from these wise men identified a three factor model when investing in equities (stocks) that should be considered in any portfolio. The three factors: The total market, small companies, and value companies. By owning the market (an entire market like the U.S. market or a Developed Market overseas) you will capture the return on that market minus costs. By owning specific funds that own only small companies and/or value companies, you will capture the return on those funds, minus the costs. Owning index funds when applying this information is very wise for many reasons.
Over the last 87 years owning small companies and value companies has increased your return on the market by about 3% per year. This is referred to as overweighting a portfolio. You end up owning more small companies and value companies (a little sickly, think K-Mart) than the market actually offers.
You can do this with two Vanguard funds. The Small-Cap Value Index Fund (small and value) and the Value Index Fund (large value). You might be able to find similar funds in your retirement account at work.
Own these funds in addition to a total market fund and research tells us you should see higher returns over time (in any given year the overweighting process can have a positive or negative affect so keep that in mind). Educate and ACT!