Sep

9

Here's more on risky vs non-risky (more precisely, high beta and low beta) stocks, following up on a previous post.

There is a very nice set of data on Eric Falkenstein's website www.betaarbitrage.com. The data gives monthly returns, going back to 1962, on stocks grouped according to beta. I've used that data along with data on market returns and interest rates from other sources.

I looked at two (overlapping) date ranges. The first is from 1993 to present. That range was chosen since it coincides with the lifespan of the S&P 500 etf SPY. The other range chosen was the past 10 years / 120 months, from 8/31/2001-8/31/2011.

The results of this study are summarized in the following table.

There is only one fairly anomalous finding–a Lake Woebegone effect–in that all beta groupings had positive alpha and out-performed SPY. That is interesting, but is nothing more nor less than an artifact of the fact that the S&P "equal weight" 500 index outperformed the standard "cap weighted" index over these periods.

If we compare within the different beta groupings, we find a great big null result, a result consistent with expectations of the "Capital Asset Pricing Model". Neither low, medium, nor high beta stocks excelled or under-performed the others in any statistically significant way. For the past 120 months, the average monthly alphas of the beta=0.5, 1.0, and 1.5 groupings were, respectively, 0.37%, 0.21%, and 0.40%, each with standard error of about 0.2%. That's a tie in statistical terms.

For the 1993-present period, the alphas were 0.27%, 0.06%, and -0.06%, giving the edge to the low beta (beta=0.5) stocks, but with standard errors in the readings that are comparable with the differences, so again it's a statistical tie.

Reiterating points that I made in a previous post, I think that the returns of risky stocks get a bad rap. First, it's not appropriate to use geometric average returns, which unfairly penalize volatile stocks. A real-world investor can re-balance his portfolio periodically if he feels his market exposure is too big or too small. Second, with risky stocks, you don't need to invest as much money to get the same market exposure, so risky stocks should be credited in some way for the interest on the money that you didn't need to invest. The Capital Asset Pricing Model term "alpha" takes care of these problems in an elegant and logical way.

Technical details:

–Monthly returns data are taken from Eric Falkenstein's site www.betaarbitrage.com, specifically from the "beta=0.5", "beta=1.0" and "beta=1.5" portfolio data supplied here.

Eric writes: "The beta portfolios here target a forward looking beta. Using historical daily data, for the most recent period, but monthly for data prior to 1998, I create portfolios filled with stocks that have the betas closest to 0.5, 1.0, and 1.5."

–Monthly alphas are calculated as follows: alpha = (return - return_riskfree) - beta*(return_s&p - return_riskfree)

–For return_s&p I used the monthly total returns, taken from MarketQA, of the S&P ETF ticker SPY.

–For return_riskfree I used the 13-week treasury bill index (ticker ^IRX on Yahoo Finance) as measured at the start of each month.


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2 Comments so far

  1. Angelo Robles on September 10, 2011 10:56 am

    Victor - Below is a rather “form letter” email inviting you to speak at one of our Family Office Association private roundtable events (we are headquartered in Greenwich), it is useful and informs you of our organization and our membership. However, in wanting to impart more of a personal touch, I have been a long time fan of yours. We would be honored to have you present (Steven Cohen, Ray Dalio and John Paulson, are a small sample of past presenters, more provided below). We have an amazing audience of among the world’s most affluent and sophisticated investors. We would be happy to work around your schedule and have the format be fireside chat like, if you desire. I look forward to hearing from you, thank you for your consideration.
    Sincerely, Angelo J. Robles, Founder & CEO, Family Office Association.

    Dear Victor:

    On behalf of the hundreds of global members of the Family Office Association (FOA)—an esteemed group of single family offices and global families of extraordinary affluence—I am pleased to invite you to add your voice to our dynamic exchange of ideas focusing on global investing, leadership, and preservation of wealth; and present at one of our upcoming private roundtables in Greenwich.

    FOA was established as an exclusive forum (headquartered in Greenwich CT) to which families of extraordinary affluence ($500M+) and social distinction can turn for peer networking, expert resources, and fresh perspectives on how to maintain vigorous multi-generational wealth. Our membership realizes the value of coming together in a confidential setting to share thoughts and compare notes, and the Family Office Association provides a synergistic environment in which relationships of trust can grow and both innovation and investments flourish.

    To that end, FOA hosts a number of private gatherings throughout the year, and we’ve drawn as participants a number of highly successful finance industry leaders, including Steven A. Cohen, John Paulson, Mike Milken, Ray Dalio, Peter Thiel, Bill Ackman, David Einhorn, Wilbur Ross, Glenn Dubin, Jamie Dinan, Joel Greenblatt, Mike Novogratz, Paul Singer, Richard Perry, Jeff Altman, Karen Finerman, Larry Robbins, Dan Loeb, Marc Lasry, John Burbank, and Nassim Taleb. Upcoming in November include: Jim Chanos, Sam Zell and Ace Greenberg.

    As FOA grows and broadens the scope of its work to become—in the spirit of Davos and TED—an ongoing and truly comprehensive agent of change, our distinguished members have requested that we extend our reach beyond the financial world to include in our discussions the leading global minds of all industries and disciplines. Given your legendary stature as an investor and so much more, we would be delighted if you would consider being a special guest presenter at one of our roundtables in Greenwich. These are normally hosted on the second Thursday of the month, however we would be happy to accomodate your scehdule, as applicable.

    FOA members would be energized and inspired by your remarkable insight and experience, and I thank you for your consideration.

    If you are interested in pursuing this opportunity, I may be reached via telephone or email using the contact information provided below. On behalf of the Family Office Association and its members, I thank you for your consideration.

    Sincerely,

    Angelo J. Robles

    Founder & CEO
    Family Office Association
    angelo@familyofficeassociation.com
    www.familyofficeassociation.com
    203-570-2898

  2. vic on September 11, 2011 10:58 am

    One has asked my brother Roy if he would like to give a joint music speculation with me as adduced in edspec and augmented by my brother who is a fine musician and investor and together we could make a good showing I think. vic

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