Volume 18, No. 3, Third Quarter 2020

Measuring Risk Preferences and Asset-Allocation Decisions: A Global Survey Analysis

by: Andrew W. Lo, Alexander Remorov, and Zied Ben Chaouch

We use a global survey of over 22,400 individual investors, 4,892 financial advisors, and 2,060 institutional investors between 2015 and 2017 to elicit their asset allocation behavior and risk preferences. We find substantially different behaviors among these three groups of market participants. Most institutional investors exhibit highly contrarian reactions to past returns in their equity allocations. Financial advisors are also mostly contrarian; a few of them demonstrate passive behavior. However, individual investors tend to extrapolate past performance. We use a clustering algorithm to partition individuals into five distinct types: passive investors, risk avoiders, extrapolators, contrarians, and optimistic investors. Across demographic categories, older investors tend to be more passive and risk averse.

Comparing Anomalies Using Liquidity and Earnings

by: Robert Snigaroff, David Wroblewski, and Sean Sehyun Yoo

We compare three factor models and their ability to explain a set of portfolio anomalies. Two of these models are based on market capitalization which most of the industry currently uses to characterize stocks. We replace this line of thinking by utilizing both earnings and liquidity to construct a competing model, which is intuitive to practitioners. Partitioning and characterizing stock returns in this way enables us to dispel some of the most challenging asset pricing anomalies. Historically, investors have concerned themselves with our proposed stock descriptors for far longer than they have with value and size characteristics

Is “1 and 10” The New “2 and 20”?*

by: Seoyoung Kim

“Case Studies” presents a case pertinent to contemporary issues and events in investment management. Insightful and provocative questions are posed at the end of each case to challenge the reader. Each case is an invitation to the critical thinking and pragmatic problem solving that are so fundamental to the practice of investment management.

Attribution of Ex-Post Realized Sharpe Ratio to The Predictability Of The Ex-Ante Forecast Return and Risk.

by: Masahito Shimizu

We propose to use an attribution formula that enables the ex-post realized Sharpe ratio to be decomposed into realized market conditions, ex-ante predictability of the returns, risk magnitude, and risk factors. We compare the predictability of the ex-ante return and ex-ante risk directly, quantitatively identifying the main source of the reduction of the Sharpe ratio using the attribution. Furthermore, we use excess Sharpe ratio attribution analysis to simultaneously evaluate the qualities of the portfolio and benchmark. We additionally provide numerical examples of the attributions using sector indices.

Is Sell-Side Research More Valuable in Bad Times?

by: Roger K. Loh and René M. Stulz

Little is known about whether the value of sell-side research is different in bad times compared to good times. Because uncertainty is high in bad times, investors find it harder to assess firm prospects and hence should value analyst output more. However, higher uncertainty makes analysts’ tasks harder, so it is unclear whether analyst output is more valuable in bad times. We find that in bad times, analyst revisions have a larger stockprice impact, earnings forecast errors per unit of uncertainty fall, and analyst reports are more frequent and longer. These results are consistent with analysts working harder and investors relying more on analysts in bad times.

Correlation Shrinkage: Implications For Risk Forecasting

by: Jose Menchero and Peng Li

In this article, we study the impact of shrinking sample correlations toward zero. We find that while such shrinkage may be beneficial from a portfolio-construction perspective, there is virtually no benefit in terms of the accuracy of risk forecasts. In fact, we show that correlation shrinkage typically increases the errors in risk forecasts, sometimes by a large margin. Hence, we conclude that for purposes of estimating portfolio risk, the estimated correlations should not deviate significantly from the sample correlation.

Practitioner’s Digest • Vol. 18, No. 3

The “Practitioners Digest” emphasizes the practical significance of manuscripts featured in the “Insights” and “Articles” sections of the journal. Readers who are interested in extracting the practical value of an article, or who are simply looking for a summary, may look to this section.

The Man Who Solved The Market

by: Gregory Zuckerman • reviewed by: Javier Estrada

“Book Reviews” identifies important, and often popular, new books from a wide range of investment topics. Beyond providing a summary and review of the content and style of the books, “Book Reviews” seeks to contribute to a conscious, critical, and informed approach to investment literature.