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Don’t Get Distracted (or Greedy)

The stock and bond markets have had a bumpy start to 2018.  But one area of the stock market in particular is having a wonderful year so far: technology stocks.  The tech-heavy Nasdaq 100 is up 13.22% year to date (as represented by QQQ).  Meanwhile, the S&P 500 is only up 3.81% and the international stock market (represented by MSCI ACWI ex US) is down -3.52% for 2018. So what exactly is lifting the Nasdaq 100?  Big tech names we all know are crushing it so far this year: Amazon up 47.95% Apple up 10.39% Microsoft up 19.22% Google up 11.02% Facebook up 14.19% Netflix up 116.42% An investor with a diversified portfolio may be hearing this for the first time or, even worse, may have already heard/read about it from their co-worker, neighbor, or in-law.  It’s common for people who are overweight in an investment that is doing great to make sure everyone around them knows it. ...

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VIDEO: Does a Declining Number of Stocks Affect the Size Premium?

Marlena Lee, PhD, Co-Head of Research – Dimensional Fund Advisors

Over the past two decades, the number of US-listed, publicly traded companies has decreased by half.1 There are many theories about what might be driving the change, such as increasing mergers and acquisitions activity, competition from global exchanges for listings, or changes in public policy and the regulatory environment for listed companies.

Historically, small cap stocks have had higher average returns than large cap stocks. This return difference between small cap stocks and large cap stocks is known as the size premium. Investors may wonder whether fewer listed companies might impact the size premium.2 Our latest research shows that, historically, neither the existence nor magnitude of the size premium have been related to the number of listed stocks.3Moreover, we believe investors should continue to expect a positive size premium over the long term.

Our Key Findings Include:

  • The number of stocks listed on US exchanges has declined from over 7,000 at its peak in 1997 to about 3,400 today. However, this has been more than offset by the growth in the number of publicly listed stocks outside the US, which is now over 39,000.4
  • Across developed markets, our research indicates that there is no relation between size premiums and the number of stocks. A smaller market should not cause investors to expect the size premium to shrink or disappear. For example, out of the 22 developed markets analyzed, Ireland, the smallest market by average number of stocks over the period examined, had the largest average monthly size premium.5
  • From 1975 through 2017, the size premium in the US was 3.48% (annualized). In an experiment that assumes only the largest 3,400 stocks existed over that same period, the size premium was virtually identical: 3.44%.6

1Includes US companies traded on the NYSE, NYSE American (formerly AMEX), and Nasdaq. Excludes non-US companies, REITs, UITs, and investment companies. Source: Dimensional, using CRSP and Compustat data. As of December 2017, there were 3,447 publicly listed securities in the US.
2The size premium is also known as the small cap premium.
3Simpson, Kaitlin and Wei Dai. 2018. “Does a Declining Number of Stocks Affect the Size Premium?” Dimensional Fund Advisors.
4Source: Dimensional, using data from Bloomberg L.P.
5Average number of stocks is the average from 1990 – 2017, the period in which data is available for Ireland. Twenty-two developed market countries were analyzed as part of our research. The size premium is the difference between returns of small and large cap stocks as calculated by Dimensional. Small cap stocks with the highest relative price (growth) and lowest profitability are excluded. Returns used to calculate the premium are hypothetical. See Important Disclosures for additional details.
6The returns used to calculate the size premiums are hypothetical, are not actual investment results, and are for illustrative purposes only. Past performance is no guarantee of future results, and actual results may vary. The size premium is the difference between returns of small and large cap stocks as calculated by Dimensional. Small cap stocks with the highest relative price (growth) and lowest profitability are excluded. See Important Disclosures for additional important details.


Important Disclosures

Ireland Size Premium: Within Ireland stocks, the smallest 0.1% of market capitalization is excluded, and the universe is restricted to exchange-traded stocks that meet minimum liquidity and listing requirements. Large cap stocks are defined as the top 87.5% of cumulative market cap ranked on firm size. Small cap stocks are defined as the bottom 12.5% of cumulative market cap ranked on firm size. Small cap stocks with the highest relative price (growth) and lowest profitability are excluded. Source: Dimensional using Bloomberg data.

US Size Premiums: Size premium, also known as the small cap premium, is calculated as the difference between the returns of small capitalization and large capitalization securities. The universe of securities is determined by Dimensional. The market universe includes publicly listed securities in the US, including stocks listed on NYSE, NYSE MKT (formerly AMEX), and Nasdaq, excluding non-US companies, REITs, UITs, and investment companies. Source: Dimensional using CRSP and Compustat data. Large cap stocks are defined as those that comprise the top 90% of the market capitalization of the universe. Small cap stocks include the bottom 10% of market capitalization of the universe. Small cap stocks with the highest relative price (growth) and lowest profitability are excluded. Stocks are weighted by their size within the small and large cap universes, unless otherwise stated. Profitability is measured as operating income before depreciation and amortization minus interest expense scaled by book. Rebalanced in a staggered fashion, with one-twelfth of the universe rebalanced at the end of the month. Additionally, applying the methodology above, the size premium for 3,400 stocks in the hypothetical example is calculated as the premium based on the 3,400 largest stocks from the market universe over time.

Filters were applied to data retroactively. Results are backtested with the benefit of hindsight. Past performance is no guarantee of future results. The returns used to calculate the premiums are hypothetical, are not actual investment results, and are for illustrative purposes only. The results are not representative of indices, actual investments, or actual strategies managed by Dimensional. Assumes reinvestment of dividends and capital gains. Results do not reflect any costs or fees associated with actual investing, such as advisory fees and transaction costs, which would reduce returns. Actual investment returns may be lower or may differ significantly. Data is subject to numerous limitations. Start date of data is based on availability of data. Results for different time periods could differ, perhaps significantly, from the results shown. Size, or small cap premiums, can be calculated using different methodology. Results using different calculation methodology could differ, perhaps significantly, from the results shown.

All expressions of opinion are subject to change. This is distributed for informational purposes, and it is not to be construed as an offer, solicitation, recommendation, or endorsement of any particular security, products, or services. Actual future results may vary significantly from expectations.

Risks: Investments involve risks. Small and micro cap securities are subject to greater volatility than those in other asset categories. International investing involves special risks, such as currency fluctuation and political instability. There is no guarantee strategies will be successful.

Dimensional Fund Advisors LP is an investment advisor registered with the Securities and Exchange Commission.

Tuning Out the Noise

For investors, it can be easy to feel overwhelmed by the relentless stream of news about markets. Being bombarded with data and headlines presented as impactful to your financial well-being can evoke strong emotional responses from even the most experienced investors. Headlines from the ”lost decade”[1] can help illustrate several periods that may have led market participants to question their approach. May 1999: Dow Jones Industrial Average Closes Above 11,000 for the First Time March 2000: Nasdaq Stock Exchange Index Reaches an All-Time High of 5,048 April 2000: In Less Than a Month, Nearly a Trillion Dollars of Stock Value Evaporates October 2002: Nasdaq Hits a Bear-Market Low of 1,114 September 2005: Home Prices Post Record Gains September 2008: Lehman Files for Bankruptcy, Merrill Is Sold While these events are now a decade or more behind us, they can still serve as an important reminder for investors today. For many, feelings of...

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Who Does Your Financial Advisor Work for?

While driving around the city I live in, I often see a particular license plate frame from a local car dealership that boasts the tagline “We worked it out!”  Every time I see those words on the rear of a vehicle, I find myself wondering if that is the best way to market yourself.  The tagline implies that there is conflict when dealing with that car dealership; which is not something I would want to advertise if I was in the business of selling cars. Maybe I should give that dealership more credit, because, let’s be honest, we all expect at least some conflict during the car buying process.  This is primarily because we understand that the car salesperson has one overarching goal, to maximize their profit, not yours. Similarly, many financial consumers mistakenly think their advisor is working for them, when in reality they are very much working for themselves.  Financial...

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Simple Tips to Prevent Fraud

Cybercrime and fraud are serious threats and constant vigilance is key. The list below summarizes common cyber fraud tactics, along with tips and best practices. Many suggestions may be things you’re doing now, while others may be new. We also cover actions to take if you suspect that your personal information has been compromised. Cyber criminals exploit our increasing reliance on technology. Methods used to compromise a victim’s identity or login credentials – such as malware, phishing, and social engineering – are increasingly sophisticated and difficult to spot. A fraudster’s goal is to obtain information to access to your account and assets or sell your information for this purpose. Fortunately, criminals often take the path of least resistance. Following best practices and applying caution when sharing information or executing transactions makes a big difference.   What you can do Be aware of suspicious phone calls, emails, and texts asking you to send money or disclose personal...

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7 Quick Tips for Tax Season

1. Organize your paperwork. Review your prior year tax return to help you think about what you could be missing. Also consider what has changed this year compared to last year. Online access to your various accounts may expedite the process of collecting all your documents. Usually you will get an email when forms are ready rather than waiting for them to come in the mail. 2. Consider taking advantage of free filing. If your tax situation is fairly simple you may be able to take advantage of free filing websites. Depending on what website you use they have limits on how high your adjusted gross income can be to file for free. To see a full list of websites and limitations check out this page on the IRS website: https://apps.irs.gov/app/freeFile/jsp/index.jsp?ck 3. Call your CPA or tax preparer early. Due to high demand for their services during tax times CPAs and other tax preparers can have very...

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4 Smart Ways To Use Your Tax Refund

The average federal tax refund is $2,895 based on 2016 data.  I could write an entire post about why you should change your tax withholding to ensure you don’t end up getting such a large refund, but we’ll save that for another day. A refund provides a great opportunity to make smart a financial decision.  In this post, I’d like to highlight some different uses that would improve your financial life.  Here they are in no particular order: 1. Shore up your emergency savings You might have experienced unexpected car issues, home repairs or other financial emergencies in 2017.  If you did, you probably leaned on your emergency fund to help pay for those unexpected expenses.  You should generally aim to have 3-6 month’s worth of living expenses in a savings account as an emergency fund at all times.  Using your refund to shore up your emergency fund may be a smart...

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A $1 million bet against the market goes sour

Last year marked the end of a 10-year, $1 million bet between New York hedge fund consultant Tom Seides and Warren Buffett, chairman of Berkshire Hathaway Inc. In 2007 Seides bet that hedge funds – exclusive investment pools for sophisticated investors – could beat the stock market over a ten-year period. Buffett bet that the Standard & Poors 500 Index, which tracks the largest U.S. stocks, would come out ahead. Seides selected five top hedge funds as the proxy for his bet. He had reason to be hopeful: hedge funds are run by some of the smartest and most-highly-paid investment professionals. They are allowed to invest in a broad range of securities and to make changes on a moment’s notice in response to movements in markets, interest rates, and economic conditions. Hedge fund managers believe that by being nimble they can stay one step ahead of other investors. It was a rocky period...

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Investing Is Harder When You’re Older

Imagine I told you that you lost $5,000.  You’d be upset, but probably not devastated.  Now imagine that I told you that you lost $50,000.  You’d feel unsurprisingly worse. But what if this is what happened? You are 30 years old and your $50,000 401k account declined by 10%. There’s your $5,000 loss.  You’d think to yourself, “I’ve got time, I’m young and still saving aggressively for retirement.” OR You are 55 years old and your $500,000 portfolio declined 10% and you lost $50,000. Not only do you feel worse because $50,000 is a lot more than $5,000, but add to that the fact that it took you 20-plus years of saving to accumulate that half a million dollars and you were thinking of retiring in the next 5-10 years.  This situation is much more concerning emotionally. Admittedly, the 55 year old probably has a more conservative portfolio than the 30 year old, so it...

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