2. Motivation & Methodology
• In a year where only a tiny fraction of active equity managers
outperformed their benchmarks we wanted to assess the
effectiveness of some common buy and hold strategies
• We also wanted to seen if there was any consistency in
strategy performance across major equity markets
• At the end of 2013 we allocate stocks into three buy and hold
buckets (Top, Middle, Bottom) depending on the value of the
factor or strategy in question
• Our conclusions are based on median returns measured in
local currency
2
3. Methodology
Dec 31, 2013
Create Top, Middle
Bottom Portfolios
(by country &
characteristic)
2014
Local Currency
Performance
(equally weighted)
Dec 31, 2014
Calculate
stock median
returns for
Portfolios
3
Universe
Stocks with market cap
> $200M
4. Popular Equity Strategies
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•Price to Earnings
•Price to Book ValueValuation
•Sales Growth (last year)
•Earnings Growth (last year)Growth
•ROE
•Net MarginsProfitability
•12 Month Total Return (local currency)Momentum
•Mean RatingAnalyst Recommendation
•Stock Volatility (last year, measured in local currency)
•Beta to MSCI World Index (last two years, measured in USD)Stock Behavior
•Market Capitalization (in USD)Size
•Dividend Yield
•Dividend Growth (last year)Income
•Assets to EquityLeverage
6. 6
• Lower P/E stocks did best in the US, Germany and Hong Kong but the effect
was not globally uniform
• In Japan, France and Switzerland we observe a monotonic relationship
between higher P/E’s and higher median stock returns
• Verdict: The relationship between P/E’s and stock returns worked as
expected in about 1/3 of our sample. For globally oriented strategies, a
low P/E tilt did not prove of much value
7. 7
• Lower P/B strategies worked in the top three markets by capitalization (US,
UK, Japan) as well as in Germany and Hong Kong
• In Canada and Switzerland we observe that more expensive stocks (higher
P/B) outperformed the middle and bottom end of the distribution
• Verdict: The relationship between P/B’s and stock returns worked as
expected in the larger markets. For globally oriented, large cap
strategies, a low P/B tilt would have helped active managers
8. 8
• Bottom-line growth worked well as a strategy in the US, UK, Germany,
Canada and Hong Kong
• For Japanese stocks we observe a negative relationship between past EPS
growth and subsequent annual median stock returns
• Verdict: Not a bad strategy to have used in 2014. In markets where a tilt
toward higher past growth was not rewarded, the penalty wasn’t too
harsh with the exception of Japan
9. 9
• Top line growth worked well as a strategy in the US, UK, Germany, Australia
and Hong Kong
• In other markets, we did not observe a monotonic relationship between past
sales growth and 2014 median stock returns
• Similar directional results as with eps growth
• Verdict: Not a bad strategy to have used in 2014. In markets where a tilt
toward higher past growth was not rewarded, the penalty wasn’t too
harsh
10. 10
• The top 1/3 of companies in terms of net margins (higher) outperformed in Japan,
Germany, Switzerland, Australia and Hong Kong, but the degree of
outperformance was marginal
• In the US as well as Canada, the highest median returns were seen in the middle
third of the distribution
• Verdict: Net margins worked reasonably well across most equity markets,
but the degree of return differentiation would not have added much value to
active management
11. 11
• Using ROE as a stock selection factor proved uniformingly beneficial in the
US, Germany, Australia and Canada
• In Japan, France and Hong King stocks with the lowest ROE’s actually
outperformed the top 2/3
• Verdict: High ROE worked reasonably well across most equity markets.
ROE was more effective than Net Margins in differentiating median
stock performance
12. 12
• US stocks with lagging performance in 2013 reversed fortunes in 2014.
Median returns to “losers” (bottom 1/3) vastly outperformed those of “winners”
• Japanese stocks showed the same pattern as in the US with prior “losers”
leading in 2014
• In France, Germany, Australia and Canada the more usual pattern of
“winners” remaining “winners” prevailed
• Verdict: Momentum strategies worked generally well outside of the two
largest cap markets of the US and Japan
13. 13
• Poorly rated stocks (those in bottom 1/3) outperformed in the US, France and
Australia
• In Germany, Canada and Hong Kong stocks in the middle of the rating
distribution actually outperformed
• Only in Japan did highly rated stocks show an edge over lower rated stocks
• Verdict: Following analyst recommendations did not help in 2014
14. 14
• The low volatility effect was alive and well in 2014
• There was a strong and monotonic relationship between low volatility and
subsequent median returns in the US, UK, Japan and Canada
• Only in France, Germany and Hong Kong do we fail to see a big difference in
terms of median returns between the least and most volatile stocks
• Verdict: Pretty strong relationship especially in the larger capitalization
markets. Tilts toward low volatility stocks were one of the approaches
that active managers could have used effectively last year
15. 15
• Lower beta stocks tended to have higher median returns during 2014
• There was a strong and monotonic relationship between low beta and
subsequent median returns in all markets with the exception of Switzerland
(where the middle 1/3 in terms of beta outperformed)
• Verdict: Strongest relationship for 2014. Tilts toward low beta stocks
were handsomely rewarded. As with low volatility approaches, going for
less actually meant higher median stock returns
16. 16
• For the US 2014 clearly turned out to be a large cap market, but in most other
markets the median return to small caps exceeded that of large caps
• While overall the Japanese market had a robust 2014, small caps were the
standout performers
• In Hong Kong and the UK, median returns to small caps (bottom 1/3) were
positive while the top 2/3 of the stocks in terms of capitalization exhibited negative
median returns
• Verdict: Having a small cap tilt would have worked well in most markets
except the US
17. 17
• Higher dividend yield stocks performed best in the Us as well as in the UK,
Japan, Germany, Australia and Hong Kong
• Higher dividend yield strategies is not a very common strategy among equity
managers as the higher yields are usually associated with distress
• In an environment of once again global interest rate drops, this strategy can
be seen as a refuge for investors starved for yield
• Verdict: 2014 proved to be a good year in which to invest in stocks with
high dividend yields
18. 18
• Counter to intuition and detrimental to a lot of income seeking strategies,
stocks showing the highest rate of dividend growth (prior 12 months)
underperformed in the US and Switzerland
• The strategy of tilting toward higher dividend growth did, however, work well
in Germany but did not offer much discrimination elsewhere
• Verdict: Mixed picture, not a lot of discrimination between top and
bottom performers based on trailing dividend growth
19. 19
• Higher leverage companies in the US and Canada underperformed, but the effect
in other markets was mixed
• In Japan and France we actually observe that higher leverage stocks
outperformed the middle 1/3 as well as the least levered stocks
• The global macro environment for most of 2014 was fairly benign with no major
credit panics
• Verdict: This factor was mixed in 2014. This factor works best during
periods of a credit squeeze. Last year there was more noise than signal
from this factor
20. 2014 Equity Themes Summary
• While the macro picture proved fairly benign for most of the year,
portfolio managers around the globe struggled to find winning
strategies in 2014
• After the strong 2013 global equity performance (MSCI ACWI up
22.8%), managers seemed to have shortened their holding periods in
anticipation of greater market volatility and higher interest rates which
never fully materialized last year
• Some of the buy & hold strategies that could have been of real value
to equity managers included low beta and low volatility. These factors
are normally associated with portfolio construction approaches
• Active managers could have also benefited from growth-oriented tilts
as well as a focus on higher yield securities
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21. 2014 Equity Themes Summary
• Two usually strong investment strategies – momentum and small size –
failed to work in the US
• Median returns to small caps in the rest of the world did, however,
outperform
• The outperformance of mega caps in the US greatly affected active
management results given the consistent small size bias prevalent in
such approaches
• In Japan, we observed a strong reversal market with previous
performance “losers”, small caps and more levered names out-
performing in 2014
• Given that none of the popular equity strategies examined proved
universally perverse some of the underperformance of active
management must be related to idiosyncratic issues (such as AAPL
vastly outperforming) as well as portfolio construction failings
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22. FOR FURTHER INFORMATION ON OUR
RESEARCH PRODUCTSAND/OR ASSET
MANAGEMENT STRATEGIES PLEASE
CONTACT:
Eric J. Weigel at eweigel@gf-cap.com
617-529-2913
www.gf-cap.com
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