Biggest Companies Deserve to be Best?

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garlandwhizzer
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Biggest Companies Deserve to be Best?

Post by garlandwhizzer » Sat Aug 04, 2018 12:45 pm

Direct quote from John Reckenthaler's article on Morningstar website: "The Biggest Companies Deserve to Be Best"
Tuesday's column detailed how, in recent years, blue chips have dominated. An investor in August 2013 who sorted all publicly traded firms by their market caps from largest to smallest, selected the top 1%, invested equally in each of those 67 stocks, and then held that portfolio would have gained an annualized 13% over the next five years. In contrast, someone who employed the same tactic for the remaining 99% wouldn't have made a penny.
The latter finding isn't completely surprising. As I once wrote, most stocks stink--not just for five years, but forever. Half of all issues contained in the Center for Research in Security Prices' U.S. stock-market database, which dates to 1926, have posted negative returns for their lifetimes. Thus, the tactic of investing equally across the market's smaller 99% only succeeds if the winners are so huge as to overcome the majority's drag. Sometimes, that occurs--but not in this case, for the hypothetical buy-and-hold August 2013 investor.
An interesting fact: half of all stock issues since 1926 have posted negative returns for their entire lifetimes. That means that at least 50% of stocks are total long term losers. This is why growth works sometimes as it has for LCG over the last 5 years. Reliable growth is relatively rare and worth a premium. There are explanations for why value works but something few consider is that there is also an entirely rational argument for why growth works. Which style is going to work over a specific time frame is reliably defined only in retrospect.

Garland Whizzer

Wakefield1
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Re: Biggest Companies Deserve to be Best?

Post by Wakefield1 » Sat Aug 04, 2018 1:41 pm

garlandwhizzer wrote:
Sat Aug 04, 2018 12:45 pm
Direct quote from John Reckenthaler's article on Morningstar website: "The Biggest Companies Deserve to Be Best"
Tuesday's column detailed how, in recent years, blue chips have dominated. An investor in August 2013 who sorted all publicly traded firms by their market caps from largest to smallest, selected the top 1%, invested equally in each of those 67 stocks, and then held that portfolio would have gained an annualized 13% over the next five years. In contrast, someone who employed the same tactic for the remaining 99% wouldn't have made a penny.
The latter finding isn't completely surprising. As I once wrote, most stocks stink--not just for five years, but forever. Half of all issues contained in the Center for Research in Security Prices' U.S. stock-market database, which dates to 1926, have posted negative returns for their lifetimes. Thus, the tactic of investing equally across the market's smaller 99% only succeeds if the winners are so huge as to overcome the majority's drag. Sometimes, that occurs--but not in this case, for the hypothetical buy-and-hold August 2013 investor.
An interesting fact: half of all stock issues since 1926 have posted negative returns for their entire lifetimes. That means that at least 50% of stocks are total long term losers. This is why growth works sometimes as it has for LCG over the last 5 years. Reliable growth is relatively rare and worth a premium. There are explanations for why value works but something few consider is that there is also an entirely rational argument for why growth works. Which style is going to work over a specific time frame is reliably defined only in retrospect.

Garland Whizzer
"Half of all stock issues since 1926"--I wonder how many of them aren't even in business any more

Buttery Lobster
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Re: Biggest Companies Deserve to be Best?

Post by Buttery Lobster » Sat Aug 04, 2018 1:57 pm

An investor in August 2013 who sorted all publicly traded firms by their market caps from largest to smallest, selected the top 1%, invested equally in each of those 67 stocks, and then held that portfolio would have gained an annualized 13% over the next five years. In contrast, someone who employed the same tactic for the remaining 99% wouldn't have made a penny.
But this just isn't true. Total ETF returns since August 1, 2013:

OEF, S&P 100 Mega-Caps: 83.41%
SPY, S&P 500: 83.48%
RSP, S&P 500 Equal-Weighted: 73.69%
IJH, S&P 400 Mid-Caps: 71.33%
IJR, S&P 600 Small-Caps: 88.99%

A simple cap-weighted small-cap blend fund would have actually been better, returning around 13.5% annually. Mid-sized companies were a little worse during that time, but still around 11.5% annually. Hardly "wouldn't have made a penny."

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bertilak
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Re: Biggest Companies Deserve to be Best?

Post by bertilak » Sat Aug 04, 2018 5:45 pm

My instinct would be to reverse that: "Best companies deserve to be biggest."
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david1082b
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Re: Biggest Companies Deserve to be Best?

Post by david1082b » Sat Aug 04, 2018 6:06 pm

An investor in August 2013 who sorted all publicly traded firms by their market caps from largest to smallest, selected the top 1%, invested equally in each of those 67 stocks, and then held that portfolio would have gained an annualized 13% over the next five years. In contrast, someone who employed the same tactic for the remaining 99% wouldn't have made a penny.
This implies 6,700 stocks in total. Vanguard Total Stock Market has around 3,600 stocks in it, so where are the other 3,000 coming from? Is it US OTC stocks being included? There are many thousands of penny stocks on the US OTC markets, anyone can make one and list it (free market etc). They are not realistic stocks to invest in, just like you wouldn't equal-weight your investment in YouTube or Twitch channels, since anyone can make one. Equal-weighting OTC stocks along with the few thousand "proper stocks" on NYSE/Nasdaq would clearly be a dumb idea, most of your money would go down the drain. This looks like a strawman from the author to make small stocks look bad, as if indexes based on NYSE/Nasdaq small-caps or mid-caps haven't been good investments historically.

garlandwhizzer
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Re: Biggest Companies Deserve to be Best?

Post by garlandwhizzer » Sat Aug 04, 2018 7:40 pm

I don't know whether Mr. Reckenthaler's numbers are accurate or not. He is talking about the top 1% of market cap stocks and says that is 67 stocks which he equally weights. That implies that the market itself must include 6,700 stocks and the lower 99% collectively produced no positive return at all over the 5 year span. Currently Vanguard's TSM contains only 3654 stocks so what gives? Vanguard's TSM includes only 6% of SC and 0% of micro-caps. There are probably thousands of micro-caps, and investable SCs whose cap weights are small to be considered for TSM inclusion. At some point increased trading costs and frictions in the more illiquid SC space become too costly for funds. The increased failure of these vulnerable micro-cap companies may be an issue too. I don't know how Mr. R got his numbers, but I thought it was an interesting article. Clearly, the mega-cap growth FAANGS have been a major driving force for market gains in recent years, about that there is no doubt. Whether that will continue in the future is not clear.

For those who would like to read the whole article the web address is:

https://www.morningstar.com/articles/87 ... -best.html

Garland Whizzer

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nisiprius
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Re: Biggest Companies Deserve to be Best?

Post by nisiprius » Sat Aug 04, 2018 8:01 pm

(Shrug) All I can say is that, between the people who are absolutely sure that small-cap value stocks are superior, and those who swear by blue-chip stocks from the greatest companies in the world, I'm reasonably happy that my Vanguard Total Stock Market Index Fund can't be all that bad.
Annual income twenty pounds, annual expenditure nineteen nineteen and six, result happiness; Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.

jalbert
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Re: Biggest Companies Deserve to be Best?

Post by jalbert » Sat Aug 04, 2018 8:06 pm

But this just isn't true. Total ETF returns since August 1, 2013:

OEF, S&P 100 Mega-Caps: 83.41%
SPY, S&P 500: 83.48%
RSP, S&P 500 Equal-Weighted: 73.69%
IJH, S&P 400 Mid-Caps: 71.33%
IJR, S&P 600 Small-Caps: 88.99%
The S&P 600 and 400 include stringent liquidity and profitability screens. There are about 3300 US stocks in the CRSP database, which means about 1800 US stocks are not accounted for in any of the above indices.
Risk is not a guarantor of return.

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nedsaid
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Re: Biggest Companies Deserve to be Best?

Post by nedsaid » Sun Aug 05, 2018 7:19 pm

garlandwhizzer wrote:
Sat Aug 04, 2018 12:45 pm
Direct quote from John Reckenthaler's article on Morningstar website: "The Biggest Companies Deserve to Be Best"
Tuesday's column detailed how, in recent years, blue chips have dominated. An investor in August 2013 who sorted all publicly traded firms by their market caps from largest to smallest, selected the top 1%, invested equally in each of those 67 stocks, and then held that portfolio would have gained an annualized 13% over the next five years. In contrast, someone who employed the same tactic for the remaining 99% wouldn't have made a penny.
The latter finding isn't completely surprising. As I once wrote, most stocks stink--not just for five years, but forever. Half of all issues contained in the Center for Research in Security Prices' U.S. stock-market database, which dates to 1926, have posted negative returns for their lifetimes. Thus, the tactic of investing equally across the market's smaller 99% only succeeds if the winners are so huge as to overcome the majority's drag. Sometimes, that occurs--but not in this case, for the hypothetical buy-and-hold August 2013 investor.
An interesting fact: half of all stock issues since 1926 have posted negative returns for their entire lifetimes. That means that at least 50% of stocks are total long term losers. This is why growth works sometimes as it has for LCG over the last 5 years. Reliable growth is relatively rare and worth a premium. There are explanations for why value works but something few consider is that there is also an entirely rational argument for why growth works. Which style is going to work over a specific time frame is reliably defined only in retrospect.

Garland Whizzer
How is it then that Vanguard Small-Cap Value Index and the S&P Small-Cap 600 have good investment records? The first has a 4 Star Morningstar Rating and the second has a 5 Star rating. I also own a Micro-Cap Index ETF that has more than doubled in value during the 10 or so years I have owned it, it is rated 3 star. Obviously the stocks in those three ETFs that I have owned have much more than a zero return. I read these kind of articles and they just don't make sense to me.

As has been noted previously, there are thousands of stocks that have such low trading volumes that are not investable, most of these are utter dogs that will never go anywhere. These stocks really distort the results when included in such surveys.

Also in recent years, the Total Market Index has been slightly outperforming the S&P 500 and this also is a point that would refute the cited article. I just call baloney on Reckenthaler. It is inconsistent with what I have observed personally.
A fool and his money are good for business.

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nedsaid
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Re: Biggest Companies Deserve to be Best?

Post by nedsaid » Sun Aug 05, 2018 7:30 pm

garlandwhizzer wrote:
Sat Aug 04, 2018 7:40 pm
I don't know whether Mr. Reckenthaler's numbers are accurate or not. He is talking about the top 1% of market cap stocks and says that is 67 stocks which he equally weights. That implies that the market itself must include 6,700 stocks and the lower 99% collectively produced no positive return at all over the 5 year span. Currently Vanguard's TSM contains only 3654 stocks so what gives? Vanguard's TSM includes only 6% of SC and 0% of micro-caps. There are probably thousands of micro-caps, and investable SCs whose cap weights are small to be considered for TSM inclusion. At some point increased trading costs and frictions in the more illiquid SC space become too costly for funds. The increased failure of these vulnerable micro-cap companies may be an issue too. I don't know how Mr. R got his numbers, but I thought it was an interesting article. Clearly, the mega-cap growth FAANGS have been a major driving force for market gains in recent years, about that there is no doubt. Whether that will continue in the future is not clear.

For those who would like to read the whole article the web address is:

https://www.morningstar.com/articles/87 ... -best.html

Garland Whizzer
I think that is the answer. Also consider that many stocks in the indexes have losses in any given year and if you weight the gains by market cap, it would make sense that relatively fewer stocks would have most of the gains. It is just in the way the information is presented. I guess it was a slow day at Morningstar and the columnists were running out of ideas.
A fool and his money are good for business.

Buttery Lobster
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Re: Biggest Companies Deserve to be Best?

Post by Buttery Lobster » Mon Aug 06, 2018 9:43 am

jalbert wrote:
Sat Aug 04, 2018 8:06 pm
But this just isn't true. Total ETF returns since August 1, 2013:

OEF, S&P 100 Mega-Caps: 83.41%
SPY, S&P 500: 83.48%
RSP, S&P 500 Equal-Weighted: 73.69%
IJH, S&P 400 Mid-Caps: 71.33%
IJR, S&P 600 Small-Caps: 88.99%
The S&P 600 and 400 include stringent liquidity and profitability screens. There are about 3300 US stocks in the CRSP database, which means about 1800 US stocks are not accounted for in any of the above indices.
It's still not true. If you look at VO and VB instead, based on the CRSP indexes, both had total returns around 69-71% during the past 5 years. Even a small cap equal weight ETF, EWSC, returned 56%. "In contrast, someone who employed the same tactic for the remaining 99% wouldn't have made a penny," is at best misleading since there are no funds that employ such a strategy (and mainstream mid and small cap funds have done just fine during that time), or at worst completely false.

iamlucky13
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Re: Biggest Companies Deserve to be Best?

Post by iamlucky13 » Mon Aug 06, 2018 4:52 pm

garlandwhizzer wrote:
Sat Aug 04, 2018 12:45 pm
Direct quote from John Reckenthaler's article on Morningstar website: "The Biggest Companies Deserve to Be Best"
An investor in August 2013 who sorted all publicly traded firms by their market caps from largest to smallest, selected the top 1%, invested equally in each of those 67 stocks, and then held that portfolio would have gained an annualized 13% over the next five years. In contrast, someone who employed the same tactic for the remaining 99% wouldn't have made a penny.
Equal weighting of all stocks in the US market? I don't even care about the answer to whether this includes OTC stocks. The underlying premise of this statement is a huge red flag.

Arsanis is the Russell 3000 (just to pick an all cap index at random) constituent with the smallest market cap I was able to look up easily, at $32 million.

Apple is 31,000x as large, at around $1 trillion.

Yet we're comparing the returns of a strategy that invests the same dollar amount in each of them? If I've got $1 million to invest, I should put $333.33 in Apple and the same in Arsanis? In contrast, if I invest in VTSAX, I'm putting $29,000 in Apple and less than $1 in Arsanis.

Why is our hypothetical investor valuing them so radically different from the market in aggregate, and what does knowing the poor performance of the strategy, especially over only a 5 year period, really tell us that we didn't already know?

The author does argue that this shows the recent strong performance of the top 1% is not merely based on market sentiments, which does sound worthwhile to talk about, but this seems like a really odd way to address that question.
nedsaid wrote:
Sun Aug 05, 2018 7:19 pm
How is it then that Vanguard Small-Cap Value Index and the S&P Small-Cap 600 have good investment records?
For one, their weighting strategies aren't as arbitrary as the case examined.

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