World Beta Blog

“A savvy collector who purchased a first edition of a Fantastic Four comic book for 10 cents and kept it in pristine condition over the past 45 years could sell it today for $36,000. That comes to a compounded average annual return of 32 percent” – Kevin Hassett, American Enterprise Institute, posted on American.com

American.com takes a look at historical returns for comic books, and found that since 1937 they have outperformed equities and all other collectibles by over 10%. Unfortunately my brother signed every comic we have from the Golden Era with magic markers, so I am guessing our returns will be slightly less. Any comic book collecting hedge funds out there?

I just finished a quick scan of “Quantitative Equity Portfolio Management“, a great primer set at the MBA/grad level. It covers all the basics in setting up stock screens and factor based ranking models.

They beat out the boys at Panagora, who share the same title, “Quantitative Equity Portfolio Management“. . .Nevertheless, I have it on pre-order.

Another book on shelf is “Way of the Turtle” by Curtis Faith which chronicles the famous “Turtle” experiment of Richard Dennis and William Eckhardt. Curtis also just joined us in the blogoshpere, welcome Curtis! He also runs the quality Trading Blox software – and I recommend the forum for some engaging trading discussions.

“The Dhandho Investor: The Low- Risk Value Method to High Returns” by Monhish Pabrai. Pabrai is one of the funds we follow in the hedge space, and since its inception in 1999, the fund has annualized returns of over 29%. I have high hopes for this book, although I am nervous it will be another Buffett cheerleading book. I have not read his other book,”Mosaic: Perspectives on Investing“.

Lastly, the Free Cash Flow Book mentioned in my previous Payout Yield post.

Oh, and if anyone wants to sell me a copy of “Margin of Safety” under $100, let me know.

Is it time to buy an asset class or industry when everyone else is puking it up?

Following up on our posts on mean reversion in equity markets and asset classes (here and here), I examine the properties of industry level mean reversion. The data used is yearly industry data from Standard and Poor’s (thanks to Sam Stovall), and includes 40 industries (I only used the ones that had full data history since 1969, eliminating roughly half). This is annual price data no-dividends, pre-GICS from 1972-2001 (needed 3 year ranking to start study).

The study examines industry performance x-years after a negative year. Thus, T-1 is a negative year last year, T-2 is a negative year two years ago, etc. 1,2 represents negative years 1 and 2 years ago, etc.

The simple take-aways are that mean reversion occurs mainly at the 2-year timeframe (which is inconsistent with earlier work that shows equity indexes displayed mean reversion at 3 years as well). The more obvious result is that it pays to buy industries that were down a few years in a row.

Speaking of mean reversion, I’m sure the boys at Goldman are hoping for some performance mean reversion after last month – Global Alpha.

KKR is buying First Data Corp for $34 per share, or a 26% premium to the closing price on Friday. Monday’s deal was unanimously approved by First Data’s board of directors but the company will entertain other bids for the next 50 days. The company said it “intends to actively solicit proposals during this period.”

The Hedge Fund Consensus strategy and the Best Ideas strategy both held positions in FDC. Individual funds that held positions in FDC as of the February reporting period were Okumus(in its top 2 holdings), Maverick, and Greenlight. Third Point and Jana held positions in the stock but have since sold out.

Just when everyone is smiling in private equityland, is the party almost over?

Kolberg Kravis Roberts Private Equity Investors $5B fund has invested/committed 90% of its available capital, only 10 months after floating on Euronext. The shares priced at $25 but traded down to the low 20′s and have since recovered to ~$24. (They listed the actual investment fund vs. listing the management company like Blackstone is going to do).

View the chart here

I imagine the new Barclay’s ETF will have an allocation to KKR in addition to many of the same names as the Dow Index. I think this will be a great offering for those interesting in creating a private equity FOF, and not having to trade on the foreign indices.

In other news, Health Shares is rolling out 22 ETFs based on therapeutic categories. Obviously this is a bit gimmicky, but it does allow the investor to allocate to very specific niches. Although, with the current state of the American diet, maybe HHM is a good investment.

Lastly, a good article on “Shareholder Yield” that relates to my Payout Yield post. Priest, who works at Epoch Investment Partners, also has a new book out on the subject. They also have a whole library of white papers on their site I will be delving into. Fairly similar to the O’Shaughnessy version except that it adds paying down debt:

Payout Yield = $ spent on dividends + $ spent on share repurchases
(Net payout is simply subtracting the $ raised through new share issues to the above formula)

Shareholder Yield = $ spent on dividends + $ spent on share repurchases + $ used to pay down debt

So, one could combine the two into a total figure of cash being returned to shareholders. . .thoughts?

Total Yield = $ spent on dividends + $ spent on share repurchases + $ used to pay down debt – $ raised through share issues

Great article from Smart Money here.

The allure of a higher frequency system is compelling, but will higher transaction costs eat into results?

It is always nice to see another analyst validate your research. Formula Research took a crack at the timing model , and after adding a few tweaks(substituting corporate bonds for Treasuries for one) found the results to be consistent(returns and risk were higher with corporates).

In another study, an individual on the Motley Fool Mechanical Investing Board reported results from a daily version of the model, below:

1972-2005

Paper’s results: CAGR 11.92% GSD 6.61%

Daily Data Results: CAGR 13.41% GSD 4.84%

He found that that the biggest improvements were on the real estate and commodity portions, a finding that is logical (they are the two most volatile asset classes). I am not sure exactly what data was used (some of the series in my paper do not have daily data back to 1972), but it is nice to see confirming results either way.

In a somewhat related note, here is an interesting Panagora presentation on risk parity.

That’s not your mother, it’s a man, baby! – Austin Powers

After the Journal of Wealth Management decided to change my name to Melanie, another group deemed it necessary to turn me into a woman. I am speaking at the Asset Allocation Summit in London this Summer, and IRC decided to Ms. me on their speaker list. (Sheesh, it’s like no one has heard the name Mebane before. . .)

Whitney Tilson, who runs the Tilson Mutual Funds, the T2 hedge funds, and organizes the Value Investing Congress, is a value disciple. He also tracks the best value hedge funds in a newsletter titled “SuperInvestor Insight” ($200/year). You can read a sample issue here. I have only flipped through the sample issue, but it could be of some benefit.

Users get a bit creative with their ETF ideas. . .

A few days ago I penned a column on ETFs that I would like to see hit the marketplace. My list is below, followed by all of the reader suggestions. One of the more unique user suggestions was disease categories (Diabetes, Heart Disease):

My original list

1. Foreign Small Cap
2. Foreign Bonds, Emerging Bonds
3. Municipal Bonds
4. Russia
5. Convertible Arbitrage
6. Value Hedge Fund of Funds (tracking the 13Fs)
7. Activist Fund of Funds (ditto)
8. Dogs of the Dow with Net Payout Yield (Wisdom Tree but with Payout Yield weighted instead of dividend yield)
9. U.S. Listed Hedge Funds and FOFs

Reader Suggestions:
1. Emerging markets non-free (all the countries that cannot exchange local currency for dollars like Sudan and Iran).
2. Timber
3. Individual commodities ala LSE
4. Disease (Diabetes, etc)
5. Country ETF’s by market cap, style
6. Emerging Value, Small Cap
7. Emerging Real Estate
8. Lots of individual country suggestions (Vietnam)
9. Lots of leveraged suggestions for asset classes (AGG, GSP)

Investors can’t seem to get their fill from the private equity fountain. . .

The magazine cover indicator(see below for description) would be screaming to get out of private equity right now, with Blackstone going public, and firms rushing out private equity funds.

That having been said, the news that Barclays Global is launching a private equity fund is good news to me. From the looks of the S&P Private Equity Index that it is based on, it seems that they are investing in a number of the foreign listed funds. I much prefer this ETF (as well as the SG ETN launched last week even though it is listed in London) to the Red Rocks/Powershares ETF (PSP) launched last year. They list Millennium Pharmaceuticals as one of their top holdings? Quite a stretch if you ask me. . .

*Paul Montgomery, president of Montgomery Capital Management in Newport News, Virginia studied magazine covers going back to the 1920s and found that by the time an investment idea makes the cover of a general-interest weekly, “it has probably attained maximum saturation.”

Will any of the new ETFs catch your eye?

With the dozens and dozens of new products hitting the market seemingly daily, there are a number of “holes” that I would like to see launched as ETFs. The recent launch of the Rydex managed futures mutual fund is a good example of an alternative strategy that I have been waiting on for some time. (Quick interesting fact – Did you know that the S&P Diversified Trends Indicator that the fund is based on was developed by Market Wizard Vic Sperandeo?)

Below is a list of funds I would like to see as ETFs. Comment or email me on other suggestions:

1. Foreign Small Cap
2. Foreign Bonds, Emerging Bonds
3. Municipal Bonds
4. Russia
5. Convertible Arbitrage
6. Value Hedge Fund of Funds (tracking the 13Fs)
7. Activist Fund of Funds (ditto)
8. Dogs of the Dow with Net Payout Yield (Wisdom Tree but with Payout Yield weighted instead of dividend yield)
9. U.S. Listed Hedge Funds and FOFs

Can adding some complexity squeeze out some more performance?

In my paper, I examined how a simple timing method on 5 asset classes could improve the returns vs. a passive buy and hold allocation. I want to explore an additional area of research – timing the components of each asset class.

The 5 asset classes used in my study were the Standard and Poor’s 500 Index (S&P 500), Morgan Stanley Capital International Developed Markets Index (MSCI EAFE), Goldman Sachs Commodity Index (GSCI), National Association of Real Estate Investment Trusts Index (NAREIT), and United States Government 10-Year Treasury Bonds.

Instead of timing the entire asset class, it is possible to dice each asset class into smaller segments. Below is an example of the timing model on just the MSCI EAFE Index:

Instead of just timing the MSCI EAFE Index, why not apply to model to all of the constituents of that index? Japan, UK, France, Switzerland, and Germany make up roughly ~80% of the index. Below are the results of the timing model on the constituent countries:

Now, what do the results look like at the portfolio level? I equal-weighted each of the constituents, and the results are below for the passive equal-weighted buy and hold (B&H), and the timing applied to the constituents (Timing).

As you can see, the equal weighted portfolio approximates the MSCI EAFE Index fairly closely. Both of the timing models have similar return figures. Most important is that the timing model applied to the constituents is superior to the timing model on the index for the risk measures of volatility and drawdown, resulting in a higher Sharpe ratio.

This study could be repeated for the constituents of each asset class.

ETFs corresponding to the countries discussed in this column are:

Japan, EWJ
UK, EWU
France, EWQ
Switzerland, EWL
Germany, EWG