Small Cap Value heads Rejoice !!!

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Steve Reading
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Re: Small Cap Value heads Rejoice !!!

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Ben Mathew wrote: Sat Sep 05, 2020 8:43 pm
Steve Reading wrote: Fri Sep 04, 2020 11:59 pm I'll just ask the Prof. himself:
I should clarify, in case there is any confusion: I worked as a professor for a few years after my PhD, but left that position several years ago. So I'm no longer a professor, except to my kids who sometimes have to listen to my lectures.
Steve Reading wrote: Fri Sep 04, 2020 11:59 pm 1) Ok long story short, I don't see a good, theoretical reason for why there should be a small cap premium. I get the value, quality and investment factors. I agree that, all else equal, the higher the B/P, the higher the profitability as a function of assets, and the less reinvestment a company needs to do, then technically the higher the returns. That's what the Miller and Modigliani equation tells us.

But size, I don't see why it should have an effect. I think smaller companies tend to be more distressed, with lower credit ratings. Smaller companies tend to load more on beta. Smaller companies tend to be more illiquid. But given you control for distress via fundamental factors, control for the extra beta, and control for the illiquidity premia, is there a good, theoretical or economic reason why the market cap itself should affect the cost of capital of a firm?

For reference, a couple of my earlier posts:
viewtopic.php?p=5475359#p5475359
viewtopic.php?p=5475511#p5475511

2) If anything, if you believe the market is mean-variance efficient, one should expect a large cap premium as the large caps would need to offer some incentive for the added concentration in the average investor portfolio. Since Fama believes the market is efficient, then I assume he's probably even further perplexed by a small cap premium. Am I correct in my thinking here?

Thanks man, your insight is always highly appreciated.
The only factor that emerges easily from basic economics is the market correlation (beta) factor. The rest are all complicated, and whether they are better explained by risk or mispricing is debatable. To me, the mispricing story is more believable.

But first, why basic economics tells us that market correlation should work: Assets that are highly correlated to the market should be cheap (have higher expected returns) because they are paying out in good times, when everything else is doing well. So they are not as valuable to us as the assets that pay out when times are tough. This explains why stocks are cheaper (have higher expected returns) than bonds, and why call options on a market index have higher expected returns than put options on a market index.

Once market beta is taken into account, it's not obvious why size, book to market, profitability, quality, momentum, and anything else should matter any more than the name of the company or whether the CEO plays golf. Note that it's critical to control for market beta when evaluating a story. Often the reasons given for why value companies deserves a higher expected return is that these companies are under duress and if the economy tanks, then they will do badly. But that story is not controlling for market beta. Controlling for market beta means there is a premium over and above what is merited by how the company will do when the economy tanks. We would have to explain why even when they pay out in tough times, people don't seem to want to hold it and demand a reasonable premium for holding it. That is a much harder story to tell.

My take is that factor premiums are due to mispricing. We know there are bubbles--from tulips to bitcoin to tech stocks. People get too excited about certain things at certain times. Run-ups in prices draw more people in driven not by fundamentals but by recent price increases. Dramatic bubbles might be infrequent. But some chronic low-grade overexcitement might be more prevalent, and will result in some stocks being chronically overpriced and some chronically underpriced. If so, we might expect that big, popular, growing firms will be overpriced and small, unpopular, embattled firms will be underpriced.

There is another thing that I find really telling--factorheads are almost always tilted towards small and value, and rarely towards large and growth. If this was all really about risk, then there is no reason why factorheads wouldn't be evenly distributed across the factors. So why aren't they? The fact that they are all tilted in one direction suggests that they seem to think it's mispricing, not risk. Who digs deeply into Fama-French, believes that the factor premiums exist, and then decides that they should tilt towards large growth and not small value?
Thanks Ben. I always find your insight very enlightening.
"... so high a present discounted value of wealth, it is only prudent for him to put more into common stocks compared to his present tangible wealth, borrowing if necessary" - Paul Samuelson
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Ben Mathew
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Re: Small Cap Value heads Rejoice !!!

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langlands wrote: Sat Sep 05, 2020 9:09 pm Aren't large growth and small value opposites? Why would factor heads tilt towards both?
I've edited the post to clarify: I'm not saying I would expect the same person to tilt towards both small-value and large-growth. Different people should tilt to different things. The question is why are factorheads as a group tilted almost exclusively towards small-value. Where are the risk averse factorheads who read this literature, believe it to be empirically sound, and then decide to tilt towards large-growth?
langlands wrote: Sat Sep 05, 2020 9:09 pm If small value has a positive premium, large growth would have a negative premium (I mean unless there is some complicated interaction term).
Yes. And the risk-based stories would claim that risk averse investors would rationally hold large growth with its negative premium because of its reduced risk.
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Re: Small Cap Value heads Rejoice !!!

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rkhusky wrote: Sat Sep 05, 2020 9:17 pm
Ben Mathew wrote: Sat Sep 05, 2020 8:43 pm There is another thing that I find really telling--factorheads are almost always tilted towards small and value, and rarely towards large and growth. If this was all really about risk, then there is no reason why factorheads wouldn't be evenly distributed across the factors. So why aren't they? The fact that they are all tilted in one direction suggests that they seem to think it's mispricing, not risk. Who digs deeply into Fama-French, believes that the factor premiums exist, and then decides that they should tilt towards large growth and not small value?
Because the Fama-French model is irrelevant as to whether one should tilt towards SV or LG. That decision is all about looking at historical returns and deciding that since SV had a premium in the past, it will have a premium in the future. Or making the argument that since SV stocks have more risk than the market, it is likely that they will have higher return then the market (or if you are naive, that SV is guaranteed to have higher return if you wait long enough).
I agree with what you wrote. And that's precisely what raises the question: among the factor-enthusiasts who have decided that factors are real and they should tilt, why is the vast majority tilting towards small value? Why aren't about half the enthusiasts tilting towards small value for high risk and high reward, and about half of them tilting towards large growth for low risk and low reward?
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Re: Small Cap Value heads Rejoice !!!

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Ben Mathew wrote: Sat Sep 05, 2020 10:20 pm
langlands wrote: Sat Sep 05, 2020 9:09 pm Aren't large growth and small value opposites? Why would factor heads tilt towards both?
I've edited the post to clarify: I'm not saying I would expect the same person to tilt towards both small-value and large-growth. Different people should tilt to different things. The question is why are factorheads as a group tilted almost exclusively towards small-value. Where are the risk averse factorheads who read this literature, believe it to be empirically sound, and then decide to tilt towards large-growth?
langlands wrote: Sat Sep 05, 2020 9:09 pm If small value has a positive premium, large growth would have a negative premium (I mean unless there is some complicated interaction term).
Yes. And the risk-based stories would claim that risk averse investors would rationally hold large growth with its negative premium because of its reduced risk.
I see, ok. For Bogleheads specifically, I think it is possible to explain why factor investors who believe primarily in the risk story would lean towards risk. Most people who even get into factor investing are those who are not satisfied with a vanilla 2-3 fund portfolio. In other words, they are willing to take more risk to get more return. So the sample is definitely going to be biased in favor of risk seekers (although believing value is mispriced also certainly helps). It is an intriguing idea though; I've never heard of anyone tilt towards growth to reduce risk. Although perhaps that's implicitly what people are doing when they buy a stock like Apple. Large tech is considered "safe" these days. It seems people who think this way tend to just not speak the "factor language."

It does seem that the factor investing community as a whole can be quite ambiguous on whether they believe in the risk or the behavioral story more. There's definitely some interesting psychology that bears analysis. From what I can see, they basically want more returns (like almost all investors). They then rationalize the better performance with either risk or behavior, but the detail honestly doesn't really matter since the main goal is really higher return all along.
Last edited by langlands on Sat Sep 05, 2020 11:06 pm, edited 6 times in total.
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Re: Small Cap Value heads Rejoice !!!

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Ben Mathew wrote: Sat Sep 05, 2020 10:27 pm And that's precisely what raises the question: among the factor-enthusiasts who have decided that factors are real and they should tilt, why is the vast majority tilting towards small value?
The real reason is successful marketing backed up by data mining, no?

SCV was enough of a "sure thing" that one SCV promoter created a portfolio where the whole stock allocation was SCV...
Ben Mathew wrote: Sat Sep 05, 2020 10:27 pm Why aren't about half the enthusiasts tilting towards small value for high risk and high reward, and about half of them tilting towards large growth for low risk and low reward?
People definitely tilt towards large "blue chips" for "safety".
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Re: Small Cap Value heads Rejoice !!!

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000 wrote: Sat Sep 05, 2020 10:38 pm
Ben Mathew wrote: Sat Sep 05, 2020 10:27 pm And that's precisely what raises the question: among the factor-enthusiasts who have decided that factors are real and they should tilt, why is the vast majority tilting towards small value?
The real reason is successful marketing backed up by data mining, no?

SCV was enough of a "sure thing" that one SCV promoter created a portfolio where the whole stock allocation was SCV...
Ben Mathew wrote: Sat Sep 05, 2020 10:27 pm Why aren't about half the enthusiasts tilting towards small value for high risk and high reward, and about half of them tilting towards large growth for low risk and low reward?
People definitely tilt towards large "blue chips" for "safety".
Fama and Cochrane both recognize doing a large-growth tilt to reduce risk.
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Re: Small Cap Value heads Rejoice !!!

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garlandwhizzer wrote: Sat Sep 05, 2020 12:46 pmI personally hold 75% TSM and 25% SCV
Hmm. That’s the most surprising part given all the negative SV sentiments in your posts (perhaps just due diligence). I recall in an earlier post in this thread that you said you had sold your SV position (perhaps didn't end up going through with it).

Investing results are period dependent – including market returns. In aggregate, I don’t expect ‘premiums’ (including the US market, and the term premium) to be as large going forward as they have been in the historical data, but still expect them to be positive over the long-term. Obviously no guarantees. Reminds me of this earlier article by Bernstein on Too much capital. Expected returns of my portfolio are lower now than they were 18 years ago.

It is not the case that recent SV performance in international markets has been “the longest and deepest [underperformance] in modern history”. Just another data point beyond the US focus.

I think you underestimate the impact that COVID responses have had on small businesses (not mentioned in your reasons for SV underperformance). This has had a dramatic impact, with small businesses most affected, and at the same time with some benefits to large tech (with increased online use/reliance for almost everything). Questions are how long and in what form will recovery take.

Japan has had a sluggish economy, low (zero) interest rates – at least since 2000, deflationary pressure, bigger debt to GDP levels, aging population etc. Japan small cap value has still performed relatively well in that environment (since 2000, and on a rolling 10-year annualized basis). The much bigger concern is that all returns have been low. E.g. Jan 2000-Aug 2020: annualized return of MSCI Japan Small Cap Value = 4.4%, MSCI Japan Index = -0.32%; Jan 2007-Aug 2020: MSCI Japan Small Cap Value = 1.8%, MSCI Japan Index = 0.3%. Let’s hope the future is better than that.

BTW - DFALX is a large cap fund – and according to its fact sheet, since inception in 1991, returns have been exactly the same as its benchmark, the MSCI World ex USA (net) – it is a large cap ‘market fund’, so not sure what the comparison with VGTSX was intended to illustrate (and VGTSX now also includes EM). The interesting part is that DFLAX has underperformed the Vanguard Total Bond Market over the past 30 years. Now even with this 30-year underperformance, we still think beta is alive, as it has performed better in other markets, particularly the US, but when SV underperforms in the US (and does okay in other markets) then we have a tendency to say it’s dead?

Message to me is diversify globally (with whatever factors you are using, including beta) – but that’s not a popular view here.

Obviously no guarantees.
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Re: Small Cap Value heads Rejoice !!!

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Steve Reading wrote: Sat Sep 05, 2020 11:11 am I cannot achieve anywhere near as much load if staying size-neutral. So I gave myself a max size load (0.3), and picked the portfolio from there.
Would be interested to see where you came out on portfolio allocation (given your thoughtful approach), if willing to share.

On size, agree it is difficult to disentangle effects. I recall this earlier article by Arnott on disentangling the size and value effect. https://www.researchaffiliates.com/docu ... _Value.pdf
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Ben Mathew wrote: Sat Sep 05, 2020 8:43 pmOften the reasons given for why value companies deserves a higher expected return is that these companies are under duress and if the economy tanks, then they will do badly. But that story is not controlling for market beta. Controlling for market beta means there is a premium over and above what is merited by how the company will do when the economy tanks.
I think the story does control for beta (re: Fama-French 3 factor model). And the story is along the lines of - the ‘risks’ beyond ‘beta’ tend to show-up at the wrong time. What Fama-French say is that the larger underperformance in tough times, is because of the greater duress small value companies have in times of crisis beyond the ‘market’ (not explained by just a beta of 1.1, for example). US small value had larger drawdowns in the financial crisis, and almost twice the market drawdown under COVID. Indeed, we see many people fleeing small value (but not the market) because of the larger drawdowns in 2020.

Fama’s story -https://www.youtube.com/watch?v=HIKO-t4vU6Q

As indicated – ‘blue chips’ tend to be viewed as ‘safer’ and many people seem more comfortable to hold these than small value stocks because of that reason (even if not explicitly using Fama-French’s research to make that decision – after all, Fama-French’s research was just trying to understand investor behavior/risk preferences). And according to Ken French’s website – over 60% of the US market is “large growth” (by their definition) – so seems to be a dominant preference as reflected by market clearing prices.
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Re: Small Cap Value heads Rejoice !!!

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Ben Mathew wrote: Sat Sep 05, 2020 10:27 pm I agree with what you wrote. And that's precisely what raises the question: among the factor-enthusiasts who have decided that factors are real and they should tilt, why is the vast majority tilting towards small value?
I suspect because of the historic data.
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Re: Small Cap Value heads Rejoice !!!

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Robert T wrote: Sun Sep 06, 2020 5:06 am
Steve Reading wrote: Sat Sep 05, 2020 11:11 am I cannot achieve anywhere near as much load if staying size-neutral. So I gave myself a max size load (0.3), and picked the portfolio from there.
Would be interested to see where you came out on portfolio allocation (given your thoughtful approach), if willing to share.

On size, agree it is difficult to disentangle effects. I recall this earlier article by Arnott on disentangling the size and value effect. https://www.researchaffiliates.com/docu ... _Value.pdf
.
Robert, I seem to recall you have an old post outlining your target exposure and how you achieved it. Could you point me in that direction? From your “location” it seems you are targeting 0.2 size, 0.4 value, and is the 0.5 momentum? Seems like it would be difficult to get that much value and momentum together without long-short.
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Re: Small Cap Value heads Rejoice !!!

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Ben Mathew wrote: Sat Sep 05, 2020 10:27 pm
rkhusky wrote: Sat Sep 05, 2020 9:17 pm
Ben Mathew wrote: Sat Sep 05, 2020 8:43 pm There is another thing that I find really telling--factorheads are almost always tilted towards small and value, and rarely towards large and growth. If this was all really about risk, then there is no reason why factorheads wouldn't be evenly distributed across the factors. So why aren't they? The fact that they are all tilted in one direction suggests that they seem to think it's mispricing, not risk. Who digs deeply into Fama-French, believes that the factor premiums exist, and then decides that they should tilt towards large growth and not small value?
Because the Fama-French model is irrelevant as to whether one should tilt towards SV or LG. That decision is all about looking at historical returns and deciding that since SV had a premium in the past, it will have a premium in the future. Or making the argument that since SV stocks have more risk than the market, it is likely that they will have higher return then the market (or if you are naive, that SV is guaranteed to have higher return if you wait long enough).
I agree with what you wrote. And that's precisely what raises the question: among the factor-enthusiasts who have decided that factors are real and they should tilt, why is the vast majority tilting towards small value? Why aren't about half the enthusiasts tilting towards small value for high risk and high reward, and about half of them tilting towards large growth for low risk and low reward?
I would say the answer is that we need to look at the portfolio as a whole. If the investor wants to target a certain expected return, if he tilts to SV he can lower his overall equity allocation. Thus he more evenly spreads his risks across market, size, value, term, credit. If he needs to create a LG portfolio with the same expected return, he needs to increase his overall equity allocation and decrease exposure to safe bonds. That would be a move further away from risk parity. The portfolio, already dominated by the market factor, would become even more so.

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Re: Small Cap Value heads Rejoice !!!

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Robert T wrote: Sun Sep 06, 2020 5:06 am
Steve Reading wrote: Sat Sep 05, 2020 11:11 am I cannot achieve anywhere near as much load if staying size-neutral. So I gave myself a max size load (0.3), and picked the portfolio from there.
Would be interested to see where you came out on portfolio allocation (given your thoughtful approach), if willing to share.

On size, agree it is difficult to disentangle effects. I recall this earlier article by Arnott on disentangling the size and value effect. https://www.researchaffiliates.com/docu ... _Value.pdf
.
Robert,
This is my target portfolio:
20% VTI
29% VFMF
11% VIOV
15% FNDF
10% ISCF
9% FNDE
6% EMGF

By me estimates, it would’ve achieved close to a 0.45 load of HmL, RmW and CmA, roughly split evenly (~0.15 each). It is close to momentum neutral and has a size tilt of about 0.3.

The above portfolio is implemented mostly with multi factor funds and the RAFI funds. However, one can achieve similar loadings using Avantis funds or even only RAFI, as long as you use a dedicated momentum fund (like MTUM). I found the above is slightly cheaper ER and I prefer to get loadings via multi factor funds due to the lower transactional costs of the approach.

As you always say, obviously, no guarantees.

EDIT: Whoops, forgot the VIOV allocation. Just noticed it when I confirmed with my notes. It’s not my current portfolio since due to unrealized cap gains preventing a switch.
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Re: Small Cap Value heads Rejoice !!!

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Robert T wrote: Sun Sep 06, 2020 5:18 am As indicated – ‘blue chips’ tend to be viewed as ‘safer’ and many people seem more comfortable to hold these than small value stocks because of that reason (even if not explicitly using Fama-French’s research to make that decision – after all, Fama-French’s research was just trying to understand investor behavior/risk preferences). And according to Ken French’s website – over 60% of the US market is “large growth” (by their definition) – so seems to be a dominant preference as reflected by market clearing prices.
Since all tilts have to add up to the market portfolio, for every person tilting to small value, there is someone else tilting towards large growth. What is puzzling to me is the composition of who is tilting towards what. Factor enthusiasts almost all seem to tilt towards small value. The people in my social circle outside of Bogleheads have not heard of Fama-French or factors and are more likely to tilt towards famous tech companies that will do great things. They seem to be the ones on the other side of the factor enthusiasts' small value tilt. But if the risk story is true, then we would not expect such a pattern. Factor enthusiasts who are more risk averse should tilt towards large growth and factor enthusiasts who are more risk tolerant should tilt towards small value. The people in my social circle who are more risk averse should tilt towards large growth and the people in my social group who are more risk tolerant should tilt towards small value. But that doesn't seem to be the way it's working. People who are more familiar with factor literature seem more inclined to tilt towards small value. That looks to me more like they found what they think might be a good deal.
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Re: Small Cap Value heads Rejoice !!!

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Steve Reading wrote: Sun Sep 06, 2020 10:29 am
Robert T wrote: Sun Sep 06, 2020 5:06 am
Steve Reading wrote: Sat Sep 05, 2020 11:11 am I cannot achieve anywhere near as much load if staying size-neutral. So I gave myself a max size load (0.3), and picked the portfolio from there.
Would be interested to see where you came out on portfolio allocation (given your thoughtful approach), if willing to share.

On size, agree it is difficult to disentangle effects. I recall this earlier article by Arnott on disentangling the size and value effect. https://www.researchaffiliates.com/docu ... _Value.pdf
.
Robert,
This is my target portfolio:
20% VTI
29% VFMF
11% VIOV
15% FNDF
10% ISCF
9% FNDE
6% EMGF

By me estimates, it would’ve achieved close to a 0.45 load of HmL, RmW and CmA, roughly split evenly (~0.15 each). It is close to momentum neutral and has a size tilt of about 0.3.

The above portfolio is implemented mostly with multi factor funds and the RAFI funds. However, one can achieve similar loadings using Avantis funds or even only RAFI, as long as you use a dedicated momentum fund (like MTUM). I found the above is slightly cheaper ER and I prefer to get loadings via multi factor funds due to the lower transactional costs of the approach.

As you always say, obviously, no guarantees.

EDIT: Whoops, forgot the VIOV allocation. Just noticed it when I confirmed with my notes. It’s not my current portfolio since due to unrealized cap gains preventing a switch.
Is your exposure evenly distributed across each region or is your goal just to have an overall exposure met? I ask because you mentioned just using value leaning funds along with dedicated momentum like MTUM; any flaw in your view with using US momentum only to neutralize it?

I’m also curious the logic behind your allocation splitting of US, domestic, and EM since the rest of your decisions are so quantitative?
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Re: Small Cap Value heads Rejoice !!!

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Ben Mathew wrote: Sun Sep 06, 2020 11:31 am
Robert T wrote: Sun Sep 06, 2020 5:18 am As indicated – ‘blue chips’ tend to be viewed as ‘safer’ and many people seem more comfortable to hold these than small value stocks because of that reason (even if not explicitly using Fama-French’s research to make that decision – after all, Fama-French’s research was just trying to understand investor behavior/risk preferences). And according to Ken French’s website – over 60% of the US market is “large growth” (by their definition) – so seems to be a dominant preference as reflected by market clearing prices.
Since all tilts have to add up to the market portfolio, for every person tilting to small value, there is someone else tilting towards large growth. What is puzzling to me is the composition of who is tilting towards what. Factor enthusiasts almost all seem to tilt towards small value. The people in my social circle outside of Bogleheads have not heard of Fama-French or factors and are more likely to tilt towards famous tech companies that will do great things. They seem to be the ones on the other side of the factor enthusiasts' small value tilt. But if the risk story is true, then we would not expect such a pattern. Factor enthusiasts who are more risk averse should tilt towards large growth and factor enthusiasts who are more risk tolerant should tilt towards small value. The people in my social circle who are more risk averse should tilt towards large growth and the people in my social group who are more risk tolerant should tilt towards small value. But that doesn't seem to be the way it's working. People who are more familiar with factor literature seem more inclined to tilt towards small value. That looks to me more like they found what they think might be a good deal.
As a basket growth underperforms but individually the best performing stocks in the universe most often come from growth. I believe this lottery-ticket effect explains the people taking the opposite of the SCV trade; they feel like gambling or think they have sufficient skill to pick the true winners.
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Re: Small Cap Value heads Rejoice !!!

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MotoTrojan wrote: Sun Sep 06, 2020 11:44 am
Steve Reading wrote: Sun Sep 06, 2020 10:29 am
Robert T wrote: Sun Sep 06, 2020 5:06 am
Steve Reading wrote: Sat Sep 05, 2020 11:11 am I cannot achieve anywhere near as much load if staying size-neutral. So I gave myself a max size load (0.3), and picked the portfolio from there.
Would be interested to see where you came out on portfolio allocation (given your thoughtful approach), if willing to share.

On size, agree it is difficult to disentangle effects. I recall this earlier article by Arnott on disentangling the size and value effect. https://www.researchaffiliates.com/docu ... _Value.pdf
.
Robert,
This is my target portfolio:
20% VTI
29% VFMF
11% VIOV
15% FNDF
10% ISCF
9% FNDE
6% EMGF

By me estimates, it would’ve achieved close to a 0.45 load of HmL, RmW and CmA, roughly split evenly (~0.15 each). It is close to momentum neutral and has a size tilt of about 0.3.

The above portfolio is implemented mostly with multi factor funds and the RAFI funds. However, one can achieve similar loadings using Avantis funds or even only RAFI, as long as you use a dedicated momentum fund (like MTUM). I found the above is slightly cheaper ER and I prefer to get loadings via multi factor funds due to the lower transactional costs of the approach.

As you always say, obviously, no guarantees.

EDIT: Whoops, forgot the VIOV allocation. Just noticed it when I confirmed with my notes. It’s not my current portfolio since due to unrealized cap gains preventing a switch.
Is your exposure evenly distributed across each region or is your goal just to have an overall exposure met? I ask because you mentioned just using value leaning funds along with dedicated momentum like MTUM; any flaw in your view with using US momentum only to neutralize it?

I’m also curious the logic behind your allocation splitting of US, domestic, and EM since the rest of your decisions are so quantitative?
It’s roughly evenly distributed across regions. So not just an overall exposure. I think it’s fine to use USA mom to neutralize foreign momentum since the correlation of momentum in US and Ex-US is like 0.7. I used to do that because I didn’t have info on VFMF but now that I have some intuition on it, I confirmed it’s actually fairly good.

The split comes from the portfolio split halfway between the MVO and the Risk Parity region split, based on historical data. It happens to be very close to the global weights already, so that was good enough for me.
"... so high a present discounted value of wealth, it is only prudent for him to put more into common stocks compared to his present tangible wealth, borrowing if necessary" - Paul Samuelson
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Re: Small Cap Value heads Rejoice !!!

Post by MotoTrojan »

Steve Reading wrote: Sun Sep 06, 2020 11:54 am
MotoTrojan wrote: Sun Sep 06, 2020 11:44 am
Steve Reading wrote: Sun Sep 06, 2020 10:29 am
Robert T wrote: Sun Sep 06, 2020 5:06 am
Steve Reading wrote: Sat Sep 05, 2020 11:11 am I cannot achieve anywhere near as much load if staying size-neutral. So I gave myself a max size load (0.3), and picked the portfolio from there.
Would be interested to see where you came out on portfolio allocation (given your thoughtful approach), if willing to share.

On size, agree it is difficult to disentangle effects. I recall this earlier article by Arnott on disentangling the size and value effect. https://www.researchaffiliates.com/docu ... _Value.pdf
.
Robert,
This is my target portfolio:
20% VTI
29% VFMF
11% VIOV
15% FNDF
10% ISCF
9% FNDE
6% EMGF

By me estimates, it would’ve achieved close to a 0.45 load of HmL, RmW and CmA, roughly split evenly (~0.15 each). It is close to momentum neutral and has a size tilt of about 0.3.

The above portfolio is implemented mostly with multi factor funds and the RAFI funds. However, one can achieve similar loadings using Avantis funds or even only RAFI, as long as you use a dedicated momentum fund (like MTUM). I found the above is slightly cheaper ER and I prefer to get loadings via multi factor funds due to the lower transactional costs of the approach.

As you always say, obviously, no guarantees.

EDIT: Whoops, forgot the VIOV allocation. Just noticed it when I confirmed with my notes. It’s not my current portfolio since due to unrealized cap gains preventing a switch.
Is your exposure evenly distributed across each region or is your goal just to have an overall exposure met? I ask because you mentioned just using value leaning funds along with dedicated momentum like MTUM; any flaw in your view with using US momentum only to neutralize it?

I’m also curious the logic behind your allocation splitting of US, domestic, and EM since the rest of your decisions are so quantitative?
It’s roughly evenly distributed across regions. So not just an overall exposure. I think it’s fine to use USA mom to neutralize foreign momentum since the correlation of momentum in US and Ex-US is like 0.7. I used to do that because I didn’t have info on VFMF but now that I have some intuition on it, I confirmed it’s actually fairly good.

The split comes from the portfolio split halfway between the MVO and the Risk Parity region split, based on historical data. It happens to be very close to the global weights already, so that was good enough for me.
Thanks for the insight, sound justification per usual. I think my lack of EM is my biggest internal doubt/question but I’ve struggled to justify an overweight and at ex-US weight it wouldn’t move the needle enough to justify the complexity; I feel I’m quite diversified as-is.
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Re: Small Cap Value heads Rejoice !!!

Post by garlandwhizzer »

garlandwhizzer wrote: ↑Sat Sep 05, 2020 12:46 pm
I personally hold 75% TSM and 25% SCV.

Robert T replied:

Hmm. That’s the most surprising part given all the negative SV sentiments in your posts (perhaps just due diligence). I recall in an earlier post in this thread that you said you had sold your SV position (perhaps didn't end up going through with it).
Yes, I did sell my SCV earlier this year largely because I got fed up with its volatility to the downside. However SCV kept going down and down after I sold it which meant that its valuation got better and better from a long term perspective. A lot of future bad news was baked into current SCV prices. Then in the recovery bull market that followed the March lows, IMO the near lunacy in the skyrocketing market action of TSLA, APPL, etc.. This reminded me uncomfortably of the excessive MOM driven euphoria of the late 1990s which I was part of. I became worried that this LCG tech darling segment of the market, selling at such lofty valuations with so much long term future optimism priced into them already, carried more risk going forward than did dirt cheap SCV. So I moved back into SCV, oddly enough because I believed it to offer more downside protection in case of a W or a reverse check mark shaped recovery instead of a the V shaped recovery that was currently priced into the market by optimism. I believe those more difficult recoveries are a real possibility. Also governmental regulation and trade policy going forward can seriously impact the growth prospects especially of FAAMGTs which are highly dependent of free international trade for supply chains and end markets. TSM already has very substantial exposure to these companies, enough for my taste, and I thought it best to widen my exposure from past winners to past losers.

Winning stock trends don't last forever and a shift in market leadership often follows the development of euphoric sentiment in long term winners like we have seen since 3/2020. When stock prices diverge too far from economic reality risk appears. I plead guilty to market timing but kept it to a modest level. For the record, I don't think SCV sucks, I just don't think it's written in stone that it is destined to win long term which is the point of my seemingly anti-SCV posts. I believe that any long term outperformance is simply reimbursement for tolerating increased risk and volatility in difficult economic circumstances. Perhaps I get carried away sometimes when posting.

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Re: Small Cap Value heads Rejoice !!!

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garlandwhizzer wrote: Sun Sep 06, 2020 2:08 pm

Yes, I did sell my SCV earlier this year largely because I got fed up with its volatility to the downside. However SCV kept going down and down after I sold it which meant that its valuation got better and better from a long term perspective. A lot of future bad news was baked into current SCV prices. Then in the recovery bull market that followed the March lows, IMO the near lunacy in the skyrocketing market action of TSLA, APPL, etc.. This reminded me uncomfortably of the excessive MOM driven euphoria of the late 1990s which I was part of. I became worried that this LCG tech darling segment of the market, selling at such lofty valuations with so much long term future optimism priced into them already, carried more risk going forward than did dirt cheap SCV. So I moved back into SCV, oddly enough because I believed it to offer more downside protection in case of a W or a reverse check mark shaped recovery instead of a the V shaped recovery that was currently priced into the market by optimism. I believe those more difficult recoveries are a real possibility. Also governmental regulation and trade policy going forward can seriously impact the growth prospects especially of FAAMGTs which are highly dependent of free international trade for supply chains and end markets. TSM already has very substantial exposure to these companies, enough for my taste, and I thought it best to widen my exposure from past winners to past losers.

Winning stock trends don't last forever and a shift in market leadership often follows the development of euphoric sentiment in long term winners like we have seen since 3/2020. When stock prices diverge too far from economic reality risk appears. I plead guilty to market timing but kept it to a modest level. For the record, I don't think SCV sucks, I just don't think it's written in stone that it is destined to win long term which is the point of my seemingly anti-SCV posts. I believe that any long term outperformance is simply reimbursement for tolerating increased risk and volatility in difficult economic circumstances. Perhaps I get carried away sometimes when posting.

Garland Whizzer
Wow Garland. I was just kidding about you and Small Value capitulation. I try to read all of your posts but I had no idea that you got out of Small Cap Value and later got back in. I was just teasing. Maybe I really do have amazing mental powers. I had no idea. :wink: Gosh, all Cliff Asness at AQR has to do is read my posts, he could have timed the bottom in Small Cap Value almost perfectly. :sharebeer But anywho, I am glad you got back in.
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Re: Small Cap Value heads Rejoice !!!

Post by Ben Mathew »

Random Walker wrote: Sun Sep 06, 2020 10:16 am
Ben Mathew wrote: Sat Sep 05, 2020 10:27 pm
rkhusky wrote: Sat Sep 05, 2020 9:17 pm
Ben Mathew wrote: Sat Sep 05, 2020 8:43 pm There is another thing that I find really telling--factorheads are almost always tilted towards small and value, and rarely towards large and growth. If this was all really about risk, then there is no reason why factorheads wouldn't be evenly distributed across the factors. So why aren't they? The fact that they are all tilted in one direction suggests that they seem to think it's mispricing, not risk. Who digs deeply into Fama-French, believes that the factor premiums exist, and then decides that they should tilt towards large growth and not small value?
Because the Fama-French model is irrelevant as to whether one should tilt towards SV or LG. That decision is all about looking at historical returns and deciding that since SV had a premium in the past, it will have a premium in the future. Or making the argument that since SV stocks have more risk than the market, it is likely that they will have higher return then the market (or if you are naive, that SV is guaranteed to have higher return if you wait long enough).
I agree with what you wrote. And that's precisely what raises the question: among the factor-enthusiasts who have decided that factors are real and they should tilt, why is the vast majority tilting towards small value? Why aren't about half the enthusiasts tilting towards small value for high risk and high reward, and about half of them tilting towards large growth for low risk and low reward?
I would say the answer is that we need to look at the portfolio as a whole. If the investor wants to target a certain expected return, if he tilts to SV he can lower his overall equity allocation. Thus he more evenly spreads his risks across market, size, value, term, credit. If he needs to create a LG portfolio with the same expected return, he needs to increase his overall equity allocation and decrease exposure to safe bonds. That would be a move further away from risk parity. The portfolio, already dominated by the market factor, would become even more so.

Dave
If diversification is a good reason to spread the bet across various factors, then that reasoning should apply to everyone, which means everyone should be tilting in the same direction (to small value). That leaves no good reason for people to tilt in the opposite direction (to large growth). In my mind, that makes it inconsistent with the "appropriately priced risk" story. The risk story has to give reasons for some people to rationally tilt in one direction, and for others to rationally tilt in the opposite direction, depending on their risk aversion. Diversification, however, is something everybody would want.
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Re: Small Cap Value heads Rejoice !!!

Post by caklim00 »

MotoTrojan wrote: Sun Sep 06, 2020 9:37 am
Robert T wrote: Sun Sep 06, 2020 5:06 am
Steve Reading wrote: Sat Sep 05, 2020 11:11 am I cannot achieve anywhere near as much load if staying size-neutral. So I gave myself a max size load (0.3), and picked the portfolio from there.
Would be interested to see where you came out on portfolio allocation (given your thoughtful approach), if willing to share.

On size, agree it is difficult to disentangle effects. I recall this earlier article by Arnott on disentangling the size and value effect. https://www.researchaffiliates.com/docu ... _Value.pdf
.
Robert, I seem to recall you have an old post outlining your target exposure and how you achieved it. Could you point me in that direction? From your “location” it seems you are targeting 0.2 size, 0.4 value, and is the 0.5 momentum? Seems like it would be difficult to get that much value and momentum together without long-short.
The 0.5 was term (for bonds). I don't think I've seen Robert target a specific momentum amount. I think it was more just to counteract periods of SCV under-performance. In hindsight, I wish I would have done this, but definitely am not now beyond hoping that Avantis can minimize negative momementum.
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Re: Small Cap Value heads Rejoice !!!

Post by MotoTrojan »

caklim00 wrote: Sun Sep 06, 2020 3:43 pm
MotoTrojan wrote: Sun Sep 06, 2020 9:37 am
Robert T wrote: Sun Sep 06, 2020 5:06 am
Steve Reading wrote: Sat Sep 05, 2020 11:11 am I cannot achieve anywhere near as much load if staying size-neutral. So I gave myself a max size load (0.3), and picked the portfolio from there.
Would be interested to see where you came out on portfolio allocation (given your thoughtful approach), if willing to share.

On size, agree it is difficult to disentangle effects. I recall this earlier article by Arnott on disentangling the size and value effect. https://www.researchaffiliates.com/docu ... _Value.pdf
.
Robert, I seem to recall you have an old post outlining your target exposure and how you achieved it. Could you point me in that direction? From your “location” it seems you are targeting 0.2 size, 0.4 value, and is the 0.5 momentum? Seems like it would be difficult to get that much value and momentum together without long-short.
The 0.5 was term (for bonds). I don't think I've seen Robert target a specific momentum amount. I think it was more just to counteract periods of SCV under-performance. In hindsight, I wish I would have done this, but definitely am not now beyond hoping that Avantis can minimize negative momementum.
Ah I see. It’s an area of interest for knowledge gain for me but it just doesn’t make intuitive sense enough for me to dive in. I’m particularly interested in the difference between multi-factor funds that target stocks with both traits, and holding a pair of single-factor funds; I’ve heard strong arguments and seen backtests pointing towards both sides. Good read on that topic:

https://alphaarchitect.com/2015/03/26/t ... trategies/
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Re: Small Cap Value heads Rejoice !!!

Post by Robert T »

MotoTrojan wrote: Sun Sep 06, 2020 9:37 am Robert, I seem to recall you have an old post outlining your target exposure and how you achieved it. Could you point me in that direction? From your “location” it seems you are targeting 0.2 size, 0.4 value, and is the 0.5 momentum? Seems like it would be difficult to get that much value and momentum together without long-short.
As mentioned, the 0.5 is the term load target in bonds. On achieving the target 0.2/0.4 size/value load in equities - this earlier thread provides the details - viewtopic.php?t=184501 - mostly RAFI funds now as you will see. Have tried to remain neutral on momentum (close to zero portfolio load), and zero alpha. Nothing path-breaking, but have managed to stick to the same factor load targets for almost 18 years.
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Re: Small Cap Value heads Rejoice !!!

Post by Robert T »

Steve Reading wrote: Sun Sep 06, 2020 10:29 am Robert,
This is my target portfolio:
20% VTI
29% VFMF
11% VIOV
15% FNDF
10% ISCF
9% FNDE
6% EMGF

By me estimates, it would’ve achieved close to a 0.45 load of HmL, RmW and CmA, roughly split evenly (~0.15 each). It is close to momentum neutral and has a size tilt of about 0.3.

The above portfolio is implemented mostly with multi factor funds and the RAFI funds. However, one can achieve similar loadings using Avantis funds or even only RAFI, as long as you use a dedicated momentum fund (like MTUM). I found the above is slightly cheaper ER and I prefer to get loadings via multi factor funds due to the lower transactional costs of the approach.

As you always say, obviously, no guarantees.

EDIT: Whoops, forgot the VIOV allocation. Just noticed it when I confirmed with my notes. It’s not my current portfolio since due to unrealized cap gains preventing a switch.
Thanks for sharing Steve. I like the structured approach.
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Re: Small Cap Value heads Rejoice !!!

Post by MotoTrojan »

Robert T wrote: Sun Sep 06, 2020 6:06 pm
MotoTrojan wrote: Sun Sep 06, 2020 9:37 am Robert, I seem to recall you have an old post outlining your target exposure and how you achieved it. Could you point me in that direction? From your “location” it seems you are targeting 0.2 size, 0.4 value, and is the 0.5 momentum? Seems like it would be difficult to get that much value and momentum together without long-short.
As mentioned, the 0.5 is the term load target in bonds. On achieving the target 0.2/0.4 size/value load in equities - this earlier thread provides the details - viewtopic.php?t=184501 - mostly RAFI funds now as you will see. Have tried to remain neutral on momentum (close to zero portfolio load), and zero alpha. Nothing path-breaking, but have managed to stick to the same factor load targets for almost 18 years.
.
Thanks, I appreciate the link. Interesting to see you note the avoidance of negative alpha with RAFI indexes, I have dug around a lot for info on that phenomenon previously. I really wanted to use the approach on my US large cap holding but found the 25bp ER of FNDX just too steep a hurdle above low cost large-blend/value funds out there, but tried to justify the cost with the reduced alpha-drag. I do use FNDC at 25% of portfolio since it’s ER isn’t far from similar products.
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Re: Small Cap Value heads Rejoice !!!

Post by Robert T »

Ben Mathew wrote: Sun Sep 06, 2020 11:31 am Since all tilts have to add up to the market portfolio, for every person tilting to small value, there is someone else tilting towards large growth. What is puzzling to me is the composition of who is tilting towards what. Factor enthusiasts almost all seem to tilt towards small value. The people in my social circle outside of Bogleheads have not heard of Fama-French or factors and are more likely to tilt towards famous tech companies that will do great things. They seem to be the ones on the other side of the factor enthusiasts' small value tilt. But if the risk story is true, then we would not expect such a pattern. Factor enthusiasts who are more risk averse should tilt towards large growth and factor enthusiasts who are more risk tolerant should tilt towards small value. The people in my social circle who are more risk averse should tilt towards large growth and the people in my social group who are more risk tolerant should tilt towards small value. But that doesn't seem to be the way it's working. People who are more familiar with factor literature seem more inclined to tilt towards small value. That looks to me more like they found what they think might be a good deal.
I don’t think it is the case that everyone who knows about the Fama-French factor model tilts to small value. That is certainly not the case on this forum, in fact I think the small value tilters are a small minority of the close to 100k members, and getting smaller as the risks of small value show-up (as in COIVD this year). And I don’t think that investors who have never heard of Fama-French think that JC Penny (with a credit rating of Caa3 is just a safe as Microsoft with a AAA credit rating because they are both exposed to market beta. Some investors are willing to take on the extra risk of JC Penny and some are not. And I don’t think the pre-requisite for a risk-based story to have merit is for an observed random distribution of small value and large growth investors in each group of people. Often (but not always) groups coalesce around similar interests/characteristics, which may spill over into similar risk preferences. And institutional investors, rather than individual investors, account for the largest share of investment dollars, with their own risk preferences – that lead to the market clearing prices (and the large growth shares) we observe.

Bubbles do exist (‘animal spirits’), and us humans have some peculiar behavioral tendencies. But on this, an observation I find interesting is that Thaler et al.s longest surviving mutual fund that seeks to exploit “behavioral biases” has not added any additional alpha, despite this caption in the fact sheet “The crazy thing is thinking humans always act logically”! So it seems hard to exploit behavioral biases (free lunches). Personally I don’t like the term separation of ‘risk’ vs ‘behavioral’. It is all about human behavior – our collective response to risk, preferences, market incentives etc. And I admit that it is a continual learning process to better understand this behavior in different contexts.
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Re: Small Cap Value heads Rejoice !!!

Post by Robert T »

garlandwhizzer wrote: Sun Sep 06, 2020 2:08 pm Yes, I did sell my SCV earlier this year largely because I got fed up with its volatility to the downside. However SCV kept going down and down after I sold it which meant that its valuation got better and better from a long term perspective. A lot of future bad news was baked into current SCV prices. Then in the recovery bull market that followed the March lows, IMO the near lunacy in the skyrocketing market action of TSLA, APPL, etc.. This reminded me uncomfortably of the excessive MOM driven euphoria of the late 1990s which I was part of. I became worried that this LCG tech darling segment of the market, selling at such lofty valuations with so much long term future optimism priced into them already, carried more risk going forward than did dirt cheap SCV. So I moved back into SCV, oddly enough because I believed it to offer more downside protection in case of a W or a reverse check mark shaped recovery instead of a the V shaped recovery that was currently priced into the market by optimism. I believe those more difficult recoveries are a real possibility. Also governmental regulation and trade policy going forward can seriously impact the growth prospects especially of FAAMGTs which are highly dependent of free international trade for supply chains and end markets. TSM already has very substantial exposure to these companies, enough for my taste, and I thought it best to widen my exposure from past winners to past losers.

Winning stock trends don't last forever and a shift in market leadership often follows the development of euphoric sentiment in long term winners like we have seen since 3/2020. When stock prices diverge too far from economic reality risk appears. I plead guilty to market timing but kept it to a modest level. For the record, I don't think SCV sucks, I just don't think it's written in stone that it is destined to win long term which is the point of my seemingly anti-SCV posts. I believe that any long term outperformance is simply reimbursement for tolerating increased risk and volatility in difficult economic circumstances. Perhaps I get carried away sometimes when posting.

Garland Whizzer
Thanks for the update.
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Re: Small Cap Value heads Rejoice !!!

Post by Robert T »

MotoTrojan wrote: Sun Sep 06, 2020 6:23 pm Interesting to see you note the avoidance of negative alpha with RAFI indexes, I have dug around a lot for info on that phenomenon previously. I really wanted to use the approach on my US large cap holding but found the 25bp ER of FNDX just too steep a hurdle above low cost large-blend/value funds out there, but tried to justify the cost with the reduced alpha-drag. I do use FNDC at 25% of portfolio since it’s ER isn’t far from similar products.
Bernstein had a nice article demonstrating this back in 2006. http://www.efficientfrontier.com/ef/0adhoc/fi.htm
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Re: Small Cap Value heads Rejoice !!!

Post by nzahir »

MotoTrojan wrote: Sat Sep 05, 2020 9:29 pm
nzahir wrote: Sat Sep 05, 2020 5:22 pm Kind of lost on which SCV to pick. How do you guys decide?

VIOV, VBR, IJS, SLYV, and RWJ (Invesco Small Cap Revenue ETF)

I want to learn a lot more about RWJ or any ETF that has to do with SCV companies that are somewhat filtered.

I believe that is what AVUV tries to do, but I am a bit lost

Any more thoughts?
Pure revenue weight (RWJ) doesn’t pass my sniff test. VIOV/IJS/SLYV are essentially identical funds; all have a slight quality component as they must have had a year of positive earnings for S&P600 inclusion. VBR is cheapest and more 50/50 mid/small-cap which some prefer. AVUV is the only that specifically screens/weights based on profitability from your list.

What’s the purpose of your SCV tilt?
Whats the sniff test on RWJ?

Not sure if I want to even tilt towards SCV, but it seems like it is a better choice than small growth and it seems so undervalued for the past decade or two
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Re: Small Cap Value heads Rejoice !!!

Post by MotoTrojan »

nzahir wrote: Sun Sep 06, 2020 6:37 pm
MotoTrojan wrote: Sat Sep 05, 2020 9:29 pm
nzahir wrote: Sat Sep 05, 2020 5:22 pm Kind of lost on which SCV to pick. How do you guys decide?

VIOV, VBR, IJS, SLYV, and RWJ (Invesco Small Cap Revenue ETF)

I want to learn a lot more about RWJ or any ETF that has to do with SCV companies that are somewhat filtered.

I believe that is what AVUV tries to do, but I am a bit lost

Any more thoughts?
Pure revenue weight (RWJ) doesn’t pass my sniff test. VIOV/IJS/SLYV are essentially identical funds; all have a slight quality component as they must have had a year of positive earnings for S&P600 inclusion. VBR is cheapest and more 50/50 mid/small-cap which some prefer. AVUV is the only that specifically screens/weights based on profitability from your list.

What’s the purpose of your SCV tilt?
Whats the sniff test on RWJ?

Not sure if I want to even tilt towards SCV, but it seems like it is a better choice than small growth and it seems so undervalued for the past decade or two
Weighting based on revenue has no academic or logical reason to be a more sound method to my knowledge. I do use some RAFI products but they don’t solely use revenue (they do use sales for 1/3 of weighting method).
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Re: Small Cap Value heads Rejoice !!!

Post by MotoTrojan »

Robert T wrote: Sun Sep 06, 2020 6:36 pm
MotoTrojan wrote: Sun Sep 06, 2020 6:23 pm Interesting to see you note the avoidance of negative alpha with RAFI indexes, I have dug around a lot for info on that phenomenon previously. I really wanted to use the approach on my US large cap holding but found the 25bp ER of FNDX just too steep a hurdle above low cost large-blend/value funds out there, but tried to justify the cost with the reduced alpha-drag. I do use FNDC at 25% of portfolio since it’s ER isn’t far from similar products.
Bernstein had a nice article demonstrating this back in 2006. http://www.efficientfrontier.com/ef/0adhoc/fi.htm
.
Thanks I’d seen that before. On paper it more than pays for the ~21bp higher ER but the lack of statistical significance wasn’t enough for me and felt I could use that ER budget elsewhere for more deeply tilted products.
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Re: Small Cap Value heads Rejoice !!!

Post by vineviz »

Ben Mathew wrote: Sat Sep 05, 2020 10:20 pm I've edited the post to clarify: I'm not saying I would expect the same person to tilt towards both small-value and large-growth. Different people should tilt to different things. The question is why are factorheads as a group tilted almost exclusively towards small-value. Where are the risk averse factorheads who read this literature, believe it to be empirically sound, and then decide to tilt towards large-growth?
It's possible those "factorheads" are just calling their strategies "quality" or "momentum". I mean, a fund like iShares MSCI USA Momentum Factor ETF (MTUM) is a large-cap growth fund if it's anything. And it has taken in over $800 million in net flows this year, versus outflows of nearly $500 million for iShares S&P Small-Cap 600 Value ETF (IJS).

It's also possible that there is a self-selection bias among "factorheads", such that people who "read this literature" and "believe it to be empirically sound" naturally have utility functions which are more contrarian (or believe themselves to have such functions) than the average investor. In other words, investors with a conformist utility function may be more likely to watch CNBC than read The Journal of Finance.

Finally, it's also possible that our view of "factorheads as a group" is clouded by either the frequency illusion or our own confirmation bias: once we notice SCV investors, we "see them everywhere" or else we mentally categorize investors who don't tilt to SCV (for instance) as being not "true" factor investors.
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Re: Small Cap Value heads Rejoice !!!

Post by Robert T »

MotoTrojan wrote: Sun Sep 06, 2020 6:52 pm
Robert T wrote: Sun Sep 06, 2020 6:36 pm
MotoTrojan wrote: Sun Sep 06, 2020 6:23 pm Interesting to see you note the avoidance of negative alpha with RAFI indexes, I have dug around a lot for info on that phenomenon previously. I really wanted to use the approach on my US large cap holding but found the 25bp ER of FNDX just too steep a hurdle above low cost large-blend/value funds out there, but tried to justify the cost with the reduced alpha-drag. I do use FNDC at 25% of portfolio since it’s ER isn’t far from similar products.
Bernstein had a nice article demonstrating this back in 2006. http://www.efficientfrontier.com/ef/0adhoc/fi.htm
.
Thanks I’d seen that before. On paper it more than pays for the ~21bp higher ER but the lack of statistical significance wasn’t enough for me and felt I could use that ER budget elsewhere for more deeply tilted products.
Yes - I earlier faced a similar choice between VOE (Vanguard MidCap Value), and FNDB/FNDX (Fundamental Board Market & Large Cap). Ended going with VOE for both the lower ER (0.07 vs. 0.25), overall portfolio fit, and already held it. Although back-tests and live returns for both FNDB/FNDX show outperformance, so think a portfolio subbing VOE with FNDB/FNDX will do just as well, if not better.
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Re: Small Cap Value heads Rejoice !!!

Post by MotoTrojan »

Robert T wrote: Mon Sep 07, 2020 8:44 am
MotoTrojan wrote: Sun Sep 06, 2020 6:52 pm
Robert T wrote: Sun Sep 06, 2020 6:36 pm
MotoTrojan wrote: Sun Sep 06, 2020 6:23 pm Interesting to see you note the avoidance of negative alpha with RAFI indexes, I have dug around a lot for info on that phenomenon previously. I really wanted to use the approach on my US large cap holding but found the 25bp ER of FNDX just too steep a hurdle above low cost large-blend/value funds out there, but tried to justify the cost with the reduced alpha-drag. I do use FNDC at 25% of portfolio since it’s ER isn’t far from similar products.
Bernstein had a nice article demonstrating this back in 2006. http://www.efficientfrontier.com/ef/0adhoc/fi.htm
.
Thanks I’d seen that before. On paper it more than pays for the ~21bp higher ER but the lack of statistical significance wasn’t enough for me and felt I could use that ER budget elsewhere for more deeply tilted products.
Yes - I earlier faced a similar choice between VOE (Vanguard MidCap Value), and FNDB/FNDX (Fundamental Board Market & Large Cap). Ended going with VOE for both the lower ER (0.07 vs. 0.25), overall portfolio fit, and already held it. Although back-tests and live returns for both FNDB/FNDX show outperformance, so think a portfolio subbing VOE with FNDB/FNDX will do just as well, if not better.
.
Backtests are compelling indeed. Live returns as well on the surface although they got a bit lucky by rebalancing fully in March 2009 into energy and financials right around the bottom. I can’t recall the exact year of transition but they now implement a traunched approach of splitting the portfolio into 4 unique subsets which rebalance quarterly, smoothing that uncompensated rebalance timing risk. Corey Hoffstein talks about this a lot of interested in more (he feels even major benchmarks have a lot of timing (un)luck that makes them poor metering sticks).
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Re: Small Cap Value heads Rejoice !!!

Post by oldcomputerguy »

nzahir wrote: Sat Sep 05, 2020 5:22 pm Kind of lost on which SCV to pick. How do you guys decide?

VIOV, VBR, IJS, SLYV, and RWJ (Invesco Small Cap Revenue ETF)

I want to learn a lot more about RWJ or any ETF that has to do with SCV companies that are somewhat filtered.

I believe that is what AVUV tries to do, but I am a bit lost

Any more thoughts?
Another possibility you may want to check on is RZV (Invesco Small-cap Pure Value ETF). It's more "valuey" than RWJ (76% SCV versus 49% for RWJ) and is a basis point or two cheaper (0.35% vs 0.39%).
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MotoTrojan
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Re: Small Cap Value heads Rejoice !!!

Post by MotoTrojan »

oldcomputerguy wrote: Mon Sep 07, 2020 9:12 am
nzahir wrote: Sat Sep 05, 2020 5:22 pm Kind of lost on which SCV to pick. How do you guys decide?

VIOV, VBR, IJS, SLYV, and RWJ (Invesco Small Cap Revenue ETF)

I want to learn a lot more about RWJ or any ETF that has to do with SCV companies that are somewhat filtered.

I believe that is what AVUV tries to do, but I am a bit lost

Any more thoughts?
Another possibility you may want to check on is RZV (Invesco Small-cap Pure Value ETF). It's more "valuey" than RWJ (76% SCV versus 49% for RWJ) and is a basis point or two cheaper (0.35% vs 0.39%).
RZV is a pretty extreme way to go with deep sector-concentration. Not only does it load up on ~2x the HML (value) factor compared to RWJ, it also loads up a lot more on SMB (small). If you like the idea of super deep value I would go with QVAL before RZV.

I would not recommend it to someone just dipping their toes in tilts and asking about what fund to use (or really to anyone honestly).
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Re: Small Cap Value heads Rejoice !!!

Post by acegolfer »

Ben Mathew wrote: Sun Sep 06, 2020 2:40 pm
Random Walker wrote: Sun Sep 06, 2020 10:16 am
I would say the answer is that we need to look at the portfolio as a whole. If the investor wants to target a certain expected return, if he tilts to SV he can lower his overall equity allocation. Thus he more evenly spreads his risks across market, size, value, term, credit. If he needs to create a LG portfolio with the same expected return, he needs to increase his overall equity allocation and decrease exposure to safe bonds. That would be a move further away from risk parity. The portfolio, already dominated by the market factor, would become even more so.

Dave
If diversification is a good reason to spread the bet across various factors, then that reasoning should apply to everyone, which means everyone should be tilting in the same direction (to small value). That leaves no good reason for people to tilt in the opposite direction (to large growth). In my mind, that makes it inconsistent with the "appropriately priced risk" story. The risk story has to give reasons for some people to rationally tilt in one direction, and for others to rationally tilt in the opposite direction, depending on their risk aversion. Diversification, however, is something everybody would want.
Here's an explanation that will solve your puzzle. Diversifying across various factors will lower only one type of risk = stdev. But it will increase other types of risk. In other words, it's not a free lunch.

The above strategy will work for a mean-variance investor such as OP. But an average investor also fears other risks such as recession risk. Hence the above factor diversification is something not everybody would want.
nzahir
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Re: Small Cap Value heads Rejoice !!!

Post by nzahir »

oldcomputerguy wrote: Mon Sep 07, 2020 9:12 am
nzahir wrote: Sat Sep 05, 2020 5:22 pm Kind of lost on which SCV to pick. How do you guys decide?

VIOV, VBR, IJS, SLYV, and RWJ (Invesco Small Cap Revenue ETF)

I want to learn a lot more about RWJ or any ETF that has to do with SCV companies that are somewhat filtered.

I believe that is what AVUV tries to do, but I am a bit lost

Any more thoughts?
Another possibility you may want to check on is RZV (Invesco Small-cap Pure Value ETF). It's more "valuey" than RWJ (76% SCV versus 49% for RWJ) and is a basis point or two cheaper (0.35% vs 0.39%).
This may be getting too complex for me, I will keep reading a bit more on here though to decide which SCV fund I like (if I even choose to tilt)

I think I do want to tilt to SCV a bit because Large Cap has gotten so top heavy and I have a very long time frame (young 20s)
YRT70
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Re: Small Cap Value heads Rejoice !!!

Post by YRT70 »

nzahir wrote: Mon Sep 07, 2020 11:13 pm
oldcomputerguy wrote: Mon Sep 07, 2020 9:12 am
nzahir wrote: Sat Sep 05, 2020 5:22 pm Kind of lost on which SCV to pick. How do you guys decide?

VIOV, VBR, IJS, SLYV, and RWJ (Invesco Small Cap Revenue ETF)

I want to learn a lot more about RWJ or any ETF that has to do with SCV companies that are somewhat filtered.

I believe that is what AVUV tries to do, but I am a bit lost

Any more thoughts?
Another possibility you may want to check on is RZV (Invesco Small-cap Pure Value ETF). It's more "valuey" than RWJ (76% SCV versus 49% for RWJ) and is a basis point or two cheaper (0.35% vs 0.39%).
This may be getting too complex for me, I will keep reading a bit more on here though to decide which SCV fund I like (if I even choose to tilt)
Here's a good read. Ben Felix analyzes a couple of funds and concludes that IJS (SLYV or VIOV) are good for tilting.
https://www.pwlcapital.com/wp-content/u ... -Final.pdf

This portfolio should be updated very soon. He's been talking about the Avantis ETFs so I'm very curious if he'll include AVUV.
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Re: Small Cap Value heads Rejoice !!!

Post by MotoTrojan »

Very interesting take on where the value premium actually comes from, why large-value stopped working in the early 80's and why small-value stopped working more recently; value is really just short volatility.

Curious other value-heads thoughts on this. They are obviously selling a unique product that would drive them to have a unique view.

Parts 2 & 3 are where it really gets interesting:

https://www.logicafunds.com/talking-you ... ut-value-1
https://www.logicafunds.com/talking-you ... ut-value-2
https://www.logicafunds.com/talking-you ... ut-value-3

Maybe this is all just above my head but I prefer my more intuitive understandings (behavior and risk premium). Logica also has some radical views on the move to passive and how it will drive prices up as much as 50x and wreak havoc on the financial markets.
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Re: Small Cap Value heads Rejoice !!!

Post by YRT70 »

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Forester
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Re: Small Cap Value heads Rejoice !!!

Post by Forester »

I had heard Schiff before, discuss why he doesn't own any financials in his value fund and he touches on that here 37:40 https://youtu.be/CkEYTAFLzVA, and coincidentally I listened to that interview on a day when QVAL did better than some of the other value funds. QVAL of course owns no financials, not due to a judgement call but because the price ratio Wes Gray uses in that fund, is not well suited to how banks operate.

It's just something to bear in mind, if an investor has one foot in the Schiff worldview - let's not discuss it here - there are funds like QVAL which sidestep that sector through an accident of their methodology.
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Re: Small Cap Value heads Rejoice !!!

Post by vineviz »

MotoTrojan wrote: Tue Sep 08, 2020 12:06 pm Very interesting take on where the value premium actually comes from, why large-value stopped working in the early 80's and why small-value stopped working more recently; value is really just short volatility.
The entire premise (that value has "stopped working") is unsupportable.

Any possible explanation for an event only becomes interesting if we can agree that the event actually happened.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
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Re: Small Cap Value heads Rejoice !!!

Post by MotoTrojan »

vineviz wrote: Tue Sep 08, 2020 1:12 pm
MotoTrojan wrote: Tue Sep 08, 2020 12:06 pm Very interesting take on where the value premium actually comes from, why large-value stopped working in the early 80's and why small-value stopped working more recently; value is really just short volatility.
The entire premise (that value has "stopped working") is unsupportable.

Any possible explanation for an event only becomes interesting if we can agree that the event actually happened.
Is it not undeniable that there are periods of flat/declining returns for the HML index? I don’t think you need to prove it’s forever dead to try and find possible drivers of that period of no premium.
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Re: Small Cap Value heads Rejoice !!!

Post by vineviz »

MotoTrojan wrote: Tue Sep 08, 2020 1:15 pm Is it not undeniable that there are periods of flat/declining returns for the HML index? I don’t think you need to prove it’s forever dead to try and find possible drivers of that period of no premium.
You wrote that value has "stopped working", and at best that's an imprecise and ambiguous statement.

If we said that an investment strategy has stopped working every time it had a period of underperformance, we'd be saying it every day about something. Stocks are down today and bonds are up: has equity investing "stopped working"? Of course not, because variability in returns is an essential characteristic of the strategy. It's something we expect, even when equity investing is "working", because investing is inherently a long-term strategy.

Likewise, value investing is a long-term strategy (at least as we're discussing it in this thread). A year or two or five of underperformance isn't unexpected nor is sufficient to prove that value investing is no longer a viable strategy.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
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Re: Small Cap Value heads Rejoice !!!

Post by MotoTrojan »

vineviz wrote: Tue Sep 08, 2020 1:31 pm
MotoTrojan wrote: Tue Sep 08, 2020 1:15 pm Is it not undeniable that there are periods of flat/declining returns for the HML index? I don’t think you need to prove it’s forever dead to try and find possible drivers of that period of no premium.
You wrote that value has "stopped working", and at best that's an imprecise and ambiguous statement.

If we said that an investment strategy has stopped working every time it had a period of underperformance, we'd be saying it every day about something. Stocks are down today and bonds are up: has equity investing "stopped working"? Of course not, because variability in returns is an essential characteristic of the strategy. It's something we expect, even when equity investing is "working", because investing is inherently a long-term strategy.

Likewise, value investing is a long-term strategy (at least as we're discussing it in this thread). A year or two or five of underperformance isn't unexpected nor is sufficient to prove that value investing is no longer a viable strategy.
Apologies if my phrasing was inappropriate. You are speaking to the choir, I am a die-hard value factor believer, not personally put-off by the poor performance recently (if anything it proves the risk-premium lives-on) and now often post this when people talk about the scary drawdown and value's death: https://www.twocenturies.com/blog/2020/ ... er-history

Having said all of that, the links above have a very unique explanation for why value has outperformed since the 1920's, and more importantly what explains the periods of weak value performance. I don't believe it has legs, but curious others opinions.

Did you even click the links, or just jump on me for saying value has stopped working?
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Re: Small Cap Value heads Rejoice !!!

Post by vineviz »

MotoTrojan wrote: Tue Sep 08, 2020 1:39 pm Did you even click the links, or just jump on me for saying value has stopped working?
Embarrassed to say it is the latter.

Life's too short to read every "value is dead" blog post, but if you think this one is interesting then I'll add it to my Evernote collection to read when I have a chance.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
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Re: Small Cap Value heads Rejoice !!!

Post by MotoTrojan »

vineviz wrote: Tue Sep 08, 2020 3:35 pm
MotoTrojan wrote: Tue Sep 08, 2020 1:39 pm Did you even click the links, or just jump on me for saying value has stopped working?
Embarrassed to say it is the latter.

Life's too short to read every "value is dead" blog post, but if you think this one is interesting then I'll add it to my Evernote collection to read when I have a chance.
Understandable. I personally find Michael Green's overall market views pretty jarring and extreme (passive distorting market) but the guy is certainly intelligent. I think it would be worth a read and if you do get to it, I'd be intrigued to hear your thoughts.

In the meantime I'll continue holding my strongly-tilted value portfolio :sharebeer.
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Re: Small Cap Value heads Rejoice !!!

Post by vineviz »

vineviz wrote: Fri Sep 04, 2020 5:09 pm
muffins14 wrote: Thu Sep 03, 2020 5:39 pm
Steve Reading wrote: Thu Sep 03, 2020 4:49 pm [
Ex: Two firms, one twice as big as the other in every way (twice as much debt, twice as much book value, etc etc). The bigger company might be allowed to borrow twice as much, but it doesn't get to borrow any cheaper just because it's bigger.
This surprises me. My intuition would be that Google could access capital much cheaper than a small company with much lower revenue-generation capability, no?
The last time I looked at the bond ratings of companies in the S&P 600 vs the S&P 500, the small cap companies had lower average ratings than the large cap companies and thus it is safe to say their cost of capital is higher.
I just wanted to revisit this since I recently pulled a group of bond listings out of my broker's website. I manually searched for bond issues from companies that are currently in the S&P 600 (so already a group selected to have at least some degree of profitability at some point). I found 68 different companies with bonds, and the table below just shows the distribution of credit ratings by issuer (equal-weighting by company, not by debt outstanding, with no attention to sector representativeness).

For comparison, I included the distribution of credit ratings for the iShares Core Total USD Bond Market ETF (IUSB) which DOES weight by debt outstanding. I chose IUSB since it includes all USD-denominated investment-grade and high-yield bonds.

Image

The differences are immediately apparent. The median USD bond is rated AAA whereas the median S&P 600 company bond is rated B2, or five full notches lower. This corresponds to roughly a 6% YTM for a 5-year S&P 600 bond, versus a 1.2% YTM for a 5-year investment-grade bond.

It'd be interesting to see how well the credit spreads on small company bonds do at explaining the future returns of small company stocks (either in time series or in cross section), but I don't know anyone who as attempted this with any rigor.
"Far more money has been lost by investors preparing for corrections than has been lost in corrections themselves." ~~ Peter Lynch
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