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After languishing for five consecutive quarters, economic activity in India is quickening, as estimates and high frequency as well as survey-based indicators etch out for the second half of With the advancement of first advance estimates FAE of national accounts data by the Central Statistics Office CSO to the first week of January, the issue of large revisions in data has come to the fore.
Does trend following really not work on stocks?
Efficient frontiers can be constructed based on historical returns, or forecasted returns for and volatilities. Forward-looking efficient frontier portfolios are based on the user-specified expected returns and volatility combined with historical asset correlations. The asset correlation tool computes the Pearson correlation for the selected assets based on daily, monthly or annual asset returns.
The tool also shows the annualized return for the selected assets based on the compound annual growth rate formula and the selected asset return series. Monthly standard deviation is calculated based on full calendar months within the time period for the selected tickers. The factor regression analysis tool enables factor analysis of mutual funds and ETFs. The supported models include the capital asset pricing model CAPM , the Fama-French three factor model, the Carhart four-factor model and the Fama-French five factor model.
The multiple linear regression shows how well the returns of the given assets or a portfolio are explained by market, size, value and momentum factors, and the Fama-French five-factor model extends the three-factor model with profitability RMW and investment CMA factors. The analysis is based on monthly asset returns total return and monthly factor returns. Term and credit risk factors are also supported to enable analysis of fixed income funds and balanced funds.
The supported fixed income factor models include:. The fixed income factor premiums are calculated using the following funds:. The factor regression tool supports the use of robust standard errors based on the Newey—West estimator. The estimator can be used to try to overcome autocorrelation and heteroscedasticity of the residuals, which can impact the standard errors and thus the calculated t-statistics and p-values. Note that historical equity factor returns are sometimes revised based on changes to CRSP database.
Examples include updating and correcting the number of shares outstanding in past periods and changes in the treatment of deferred taxes described in FASB , i. The factor exposure matching tool enables testing whether the factor exposures and performance of the given asset can be replicated using other available assets, e.
The tool computes the factor exposures of the target asset using the specified factor model and time period, and then explores the combinations of the given alternative assets to find the closest match. The factor matching can be weighted equally, in which case the tool tries to minimize the sum square of factor loading differences for statistically significant factors, or based on t-stat, in which case the absolute t-stat value of the factor loading is used to weight the squared differences to prioritize matching based on the most significant factors.
The tool also displays the closest match based on straight performance matching for comparison purposes. The straight performance matching is based on a combination of alternative assets that minimizes the sum square of monthly return differences. The baseline portfolio is rebalanced annually, and the timing portfolio adjusts its allocation at the start of each year based on the Shiller PE10 ratio. The allocation changes to the timing portfolio are based on market valuation differing significantly from PE10 value of 18 PE10 average since Moving average model uses the crossover of the moving average with the price or another moving average to decide whether to invest in the given asset.
If the end-of-period price is greater than or equal to the moving average, the model will invest in the selected asset risk on. If the end-of-period price is less than the moving average, the model will invest in an alternative safe asset, e.
Alternatively the crossover of price and moving average can be replaced with the crossover of two moving averages, typically using a shorter term moving average being higher than the longer term moving average as the buy signal. The moving average is calculated from adjusted close prices either based on end-of-month prices for monthly moving averages or daily prices when the moving average is specified in trading days.
The start year of the timing model backtest is adjusted forward if necessary so that there is enough historical data to trigger the timing signal from the start of the timing period. Trades are performed at either the end-of-period close price, or at next trading day's close based on defined trading policy. The delayed trading accounts for the fact that typically in practice one would not be able to execute the trade at the point in time when the signal becomes available.
The relative strength model uses the relative strength of an asset compared to other assets to decide which assets to invest in. The model favors assets with the best recent performance momentum , and invests in one or more assets based on a performance ranked list of assets. Two options for relative strength timing windows are provided:.
Both models above also support moving average based risk controls, which allows the relative strength model selections to be overridden so that the model invests in cash instead of the asset if the price of the asset is below its moving average.
The moving average is calculated as described above. The months in the timing period are calendar months, and monthly changes are based on the end-of-month adjusted close price.
The dual momentum model combines relative momentum and absolute momentum based timing. Relative strength is used to select the best performing model asset s and absolute momentum is then applied as a trend-following filter to only invest in the selected asset s if the excess return over the risk free rate has been positive. If the excess return is negative, then the model invests in short- to intermediate-term fixed income instruments the out-of-market asset until the trend turns positive.
The relative momentum performance is calculated as the asset's total return over the timing period, and the return of 1-month treasury bills is used as the risk free rate for the absolute momentum filter. Trades are performed at either the end-of-month close price, or at next trading day's close based on defined trading policy.
Rapach and Strauss and Zhou find that the US stock market leads the world markets even at the monthly frequency, so the supported options include specifying a single asset to be used for absolute momentum.
As discussed in Gary Antonacci's Dual Momentum book, we can first apply absolute momentum based on the US stock market e. If the absolute momentum excess return is negative, the model is invested in the selected out-of-market asset, e. The adaptive asset allocation model combines relative strength momentum model with different asset weighting.
The relative strength model uses an equal weight allocation for the model selected assets, whereas the adaptive asset allocation uses either risk parity allocation or minimum variance allocation for the model assets, i. Both the relative strength momentum timing period and the period for daily volatility and return calculations can be specified. The default model uses 6-month relative momentum with day volatility window. The target volatility model uses dynamic asset allocation to achieve a stable level of volatility.
The model manages volatility by forecasting future equity volatility based on historic realized volatility and then dynamically adjusts the market exposure to target a set level of volatility.
The historic realized volatility calculation assumes that the given portfolio allocation is maintained no adjustment for asset allocation drift. The model calculates the realized portfolio volatility annualized daily volatility based on daily total returns, and then either increases or decreases the equity exposure of the portfolio to maintain the target risk level. If the predicted volatility of the portfolio is above the set target level, the model shifts assets to a risk free asset, typically cash, so that the predicted volatility is in line with the target volatility.
The strategy aims to sell assets when their risk-adjusted expected return is falling rising market volatility and buying equities when their risk-adjusted expected return is rising falling market volatility to provide better risk-adjusted portfolio returns and to account for investor's risk tolerance. However, volatility targeting tends to reduce equity exposure after a sharp market drop, which means the portfolio may miss the early part of the market recovery. The bond factors for term risk and credit risk are calculated as follows:.
The data sources for monthly asset class returns are listed below. The table of annual asset class returns shows the calculated annual returns based on the data sources below. You can also import a custom return series to be used as an asset class, as a portfolio asset or as a benchmark. Below you can find a list of references to additional market data sources:. When you are signed in with your registered account you will see a "Save Portfolio" link under the portfolio asset allocation section of the results.
Similarly if the portfolio is already saved or you have selected an existing saved portfolio, the section will refer to the saved portfolio name. The results section for Monte Carlo simulations and timing models will also include a corresponding link to save the related model. You can also save both portfolio backtest and timing model results as benchmarks. In the save dialog you can change the "Save As" option to "Benchmark", and you can then use the saved benchmark series as a comparison in any other model tests by selecting it from the benchmark list.
The login menu in the top right hand corner provides the options to view and manage the list of saved models and benchmarks. Global growth is expected to accelerate further in , benefitting from the boost to investment demand in the US from corporate tax cuts, robust recovery in the euro area and generally improved growth outlook in EMEs Chart I.
The sharp recovery in world trade is expected to sustain in and enlarge the prospects of another year of strong and resilient global activity. Headline CPI inflation reached a peak of 5. The delayed setting in of the seasonal food prices moderation took down headline inflation to 4. It is likely that this softening will keep the reading for March benign before it reverses in April. The incidence and strength of this reversal will condition monetary policy responses in The proportion of respondents expecting the general price level to increase by more than the current rate declined for both three months and one year horizons Chart I.
Taking into account the initial conditions, signals from the forward looking surveys and estimates from structural and other models, CPI inflation is projected to pick up from 4. It may be noted that the direct impact of the increase in the HRA announced by the Central Government fades away fully by December The 50 per cent and the 70 per cent confidence intervals for inflation in Q4: The 50 per cent and the 70 per cent confidence intervals for Q4: There are a number of upside risks to the baseline forecasts.
Although the direct impact on headline inflation is statistical and should be looked through for policy purposes, second order effects of the expected increases in HRA, including by state governments, can impact inflation expectations.
Other major risks to the inflation outlook are crude oil and other commodity prices, the proposed revisions to MSPs for kharif crops, and fiscal slippage at both the central and state levels. Going forward, economic activity is expected to gather pace in , benefitting from a conducive domestic and global environment.
First, the teething troubles relating to implementation of the GST are receding. Second, credit off-take has improved in the recent period and is becoming increasingly broad-based, which portends well for the manufacturing sector and new investment activity. Third, large resource mobilisation from the primary market could strengthen investment activity further in the period ahead. Fourth, the process of recapitalisation of public sector banks and resolution of distressed assets under the Insolvency and Bankruptcy Code IBC may improve the business and investment environment.
Fifth, global trade growth has accelerated, which should encourage exports and reduce the drag from net exports. Sixth, the thrust on rural and infrastructure sectors in the Union Budget could rejuvenate rural demand and also crowd in private investment. However, surveys conducted by other agencies indicate an improvement in business confidence Table I.
Taking into account the baseline assumptions, survey indicators and model forecasts, real GDP growth is projected to improve from 6. Risks to the baseline growth scenario need to be monitored carefully. Second, protectionist measures in the US and the generalised threat of a trade war can exacerbate volatility in global financial markets, with spillovers to domestic financial markets and adverse implications for the growth outlook.
Large revisions in past data on national accounts statistics also pose a challenge to forecasts Box I. The baseline projections of growth and inflation presented in the preceding sections are based on assumptions set out in Table I. However, there are large uncertainties around these baseline assumptions, posing risks to the baseline projections. The projected paths of growth and inflation under plausible alternative scenarios are discussed below.
The dynamics of oil prices over the past six months highlight the volatility associated with the oil market. Global growth has surprised on the upside in recent quarters. If these conditions persist, global crude oil demand and hence prices could edge higher. On the other hand, there could be downward pressures on international crude prices if global economic activity were to turn weaker than expected for a variety of factors discussed later or shale gas output is ramped up further in response to elevated crude oil prices or OPEC members produce more than their agreed shares.
With the advancement of first advance estimates FAE of national accounts data by the Central Statistics Office CSO to the first week of January, the issue of large revisions in data has come to the fore. The first advance estimates are based on limited information, which get addressed gradually in successive revisions. An analysis of revisions of annual growth rates of major components of GDP in India between the first release and the latest available release shows a generally upward bias.
On the production side, an analysis based on annual data onwards and quarterly data onwards reveals that the CSO revised annual real gross value added GVA growth estimates relative to advance estimates upwards in ten years on an average of about 70 basis points , and downwards in the remaining four years on an average of about 27 basis points Table I.
In the case of real GDP, advance estimates were revised up in twelve years an average of 81 basis points , and revised downwards only in two years an average of basis points. An analysis of GVA components shows that significant revisions were mainly in three sectors, viz.
From the expenditure side, the analysis of annual data from onwards and for quarterly data from onwards shows that private final consumption expenditure PFCE , and exports and imports of goods and services were revised significantly Table I.
The analysis also reveals that during periods of rising growth, initial estimates were revised upwards in successive revisions, while during the periods of slackening of growth, revisions were in the downward direction — initial estimates understate in magnitude both upswings and downswings.
The baseline scenario assumes global growth to gain upward momentum during , buoyed by the boost to US investment demand from corporate tax cuts, strong activity in the euro area supported by accommodative monetary policy and improvement in growth prospects of EMEs. There are upside risks to the baseline with the synchronised cyclical rebound, revival of global trade and easy financing conditions reinforcing each other.
If global growth turns out to be 50 bps over the baseline, it could strengthen domestic growth by 20 bps above the baseline and raise domestic inflation by around 10 bps. On the other hand, protectionist policies, continuing uncertainty associated with the pace and timing of normalisation of monetary policy in the US and other systemic central banks, and higher crude oil prices pose downside risks to global demand.
The increase in the HRA by the central government for its employees is reflected in the inflation data since July There remains uncertainty, however, about the magnitude and timing of implementation of the HRA award by the state governments for their employees and these are, therefore, not included in the baseline inflation path.
Assuming that all state governments implement increases in pay and allowances of the same order as the central government during the course of , CPI inflation could turn out to be around bps above the baseline on account of the direct statistical effect of higher HRAs, with additional indirect effects emanating from higher demand and increase in inflation expectations.
As noted earlier, monetary policy should look through the direct statistical effects, while being vigilant about indirect effects working through inflation expectations. Changing market perceptions about the pace and timing of monetary policy normalisation in the US, along with domestic inflation, fiscal slippage and current account balance developments, have been important factors driving exchange rate movements in the recent period and are likely to remain so in the near-term.
With economic activity gathering pace in the euro area, uncertainty surrounding normalisation plans of the European Central Bank is likely to add to financial market volatility. The US macroeconomic policy mix — easy fiscal policy in an environment when monetary accommodation is being withdrawn — can accentuate market volatility. Assuming a depreciation of the Indian rupee by around 5 per cent relative to the baseline, inflation could edge higher by around 20 bps and the boost to net exports could increase growth by around 15 bps.
On the other hand, with growth picking up in recent months, sound domestic fundamentals and the various initiatives taken by the Government to boost investment, India may continue to be an attractive destination for foreign investment, which could put upward pressures on the currency.
An appreciation of the Indian rupee by 5 per cent in this scenario could soften inflation by around 20 bps and reduce growth by around 15 bps in The baseline projections of growth and inflation assume a normal south-west monsoon, which is supported by early signals of likely ENSO El Nino — Southern Oscillation neutral conditions. Given the sensitivity of the agricultural sector to rainfall conditions, the actual growth and inflation dynamics would critically depend on the progress of the monsoon.
A deficient monsoon could lower overall GDP growth by around bps in Furthermore, the Union Budget has proposed revised guidelines for arriving at the MSPs for kharif crops, although the details are not yet fully available. If the monsoon is deficient and the budget proposals on MSPs lead to higher food prices, headline inflation could rise above the baseline by around 80 bps.
An empirical assessment presented in the MPR of October suggests that: Given the present levels of the combined centre and states fiscal deficit, an increase in the fiscal deficit to GDP ratio by bps could lead to an increase of about 50 bps in inflation. Apart from its direct impact on inflation, fiscal slippage has broader macro-financial implications, notably on economy-wide costs of borrowing which have already started to rise.
These may feed into inflation and elevate it further. To summarise, aggregate demand is expected to improve in , supported, inter alia, by the improving GST implementation, the recapitalisation of public sector banks and the resolution of distressed assets under the IBC.
Rural and infrastructure sectors are identified as thrust areas in the Union Budget, which could energise aggregate demand. With the acceleration in global trade, the Indian economy could benefit from buoyant external demand. In addition to the usual monsoon related uncertainty, inflation faces upside risks from a variety of other sources, especially due to the oil prices, the fiscal slippage, and the statistical effect from the expected increases in HRAs by the state governments, The purely direct statistical impact of the HRA adjustment on CPI will be looked through while formulating monetary policy.
Uncertainty over the pace and timing of monetary policy normalisation by the systemic central banks in advanced economies, protectionist tendencies and fears of a trade war pose significant risks to the baseline inflation and growth paths.
Consumer price inflation rose sharply in Q3: It moderated somewhat in Q4 on a delayed seasonal easing of prices of vegetables. Industrial input costs increased through H2: Wage pressures have remained moderate in both the organised and rural sectors.
The course of consumer price index CPI inflation in Q3 was significantly influenced by house rent allowance HRA increase for central government employees from July , following the recommendations of the 7th central pay commission CPC.
The HRA impact on inflation excluding food and fuel was even larger at around 75 basis points, adjusting for which it would have been lower at 4. Food inflation rose sharply in Q3 pushed by the unseasonal pick-up in prices of vegetables; and fuel inflation accelerated due to an uptick in inflation in liquefied petroleum gas LPG , kerosene, coke and electricity.
In Q4, headline inflation eased to 4. Excluding the HRA impact, headline inflation was 4. Actual inflation outcomes in Q3 were in alignment with the direction of the projected trajectory, but in levels, they turned out to be 35 basis points higher than forecast due to a combination of shocks. First, an unseasonal spike in the prices of onions and tomatoes during October-November caused prices of vegetables to soar, propelling inflation in this category to close to 30 per cent in December.
Second, fuel inflation rose sharply during October-November on the back of an escalation in LPG prices. Third, international crude oil prices started firming up further from October. The pass-through to CPI inflation was, however, muted in Q3 due to excise duty cuts in early October and lagged mark-ups by oil marketing companies OMCs.
In Q4, most of the factors imposing these upward price pressures reversed. The winter downturn in prices of vegetables accentuated in January. Domestic LPG prices also eased in February, tracking international prices. As a result, the deviation between the actual and the projected inflation narrowed in Q4 to 15 bps Chart II. The increase in HRA for central government employees, which became effective from July and continued to accumulate till December , shaped the path of headline inflation during Q3, with unseasonal hardening of prices of vegetables, accentuating a spike to 4.
While prices of vegetables did undergo a shallower than usual moderation in December, an unfavourable base effect came into play, pulling up inflation to a peak of 5.
In Q4, headline inflation moderated with a fall in momentum due to a delayed but steep reversal in prices of vegetables Chart II. While median and modal inflation were similar, the continuing deflation in pulses gave the inflation distribution a considerable negative skew this year in contrast to the positive skew generated by high sugar and pulses inflation during Chart II.
Diffusion indices 3 of price changes in CPI items suggest that on a seasonally adjusted basis, after an uptick in Q3: A historical decomposition 4 of inflation shows that the persistent effect of favourable supply shocks, especially on food prices, provided a cushion in the first half of The lagged impact of the still negative output gap and moderation in nominal rural wages also contributed to lower inflation during this period, while the firming up of crude oil prices imparted upward pressure Chart II.
Decomposing inflation into its goods and services components reveals that the pick-up in inflation from June to December and its reversal from January largely emanated from prices of non-durables, particularly perishables; while those of services registered a sustained increase, primarily due to increase in housing inflation from 4. Housing alone contributed over 90 per cent of the observed increase in services inflation during this period.
Turning to the drivers of food inflation in the second half of the year, the food and beverages sub-group contributed around 40 per cent to overall inflation, up from just 12 per cent during the first half. Adequate buffer stocks kept inflation in cereals generally under check. With cereals inflation under check, the pick-up in food inflation was largely on account of prices of vegetables — specifically tomato and onion — and intermittent uptick in prices of animal protein-rich food items.
Continued decline in prices of pulses exerted a strong downward pull. Vegetables, which account for 13 per cent of the food group in CPI, were the principal drivers of food inflation. Price pressures in vegetables started building up from June following a fall in mandi arrivals, especially in onions and tomatoes Chart II.
While tomato prices recorded some contraction during August-September, the extended South-West monsoon in October in several important tomato-producing centres, especially in states like Karnataka, Andhra Pradesh, Telengana, Madhya Pradesh and Odisha, led to severe crop losses and tomato prices shot up again in November.
Another driver was the inflation in onions, which rose from - 14 per cent in April to per cent in December. Again, while unfavourable weather was a factor, large procurement of onions by a few state governments was the principal cause of the price spike.
Post-November , onion and tomato prices plunged with the arrival of fresh winter crops. Supply management measures by the government, especially in case of onions, helped in easing prices. The State-owned canalising agency viz. The central government also advised states to take measures by way of licensing, imposition of stock limits and movement restrictions to balance supplies.
In case of potatoes, delayed sowing in West Bengal — a key growing state — due to extended monsoon showers in October, induced price pressures. However, carry-over stocks from the previous crop reined them in. Analysis based on CPI data suggests that there is no significant difference in the m-o-m changes of prices of vegetables in urban and rural areas — the spike in prices of vegetables uniformly impacted rural and urban India 5.
Most of the demonetisation-induced fall in prices of vegetables reversed as is evident from the trend and cyclical components of CPI-Vegetables Chart II. The other food components that recorded uptick in prices, albeit unevenly, were protein-rich items such as egg, meat and fish.
Inflation in egg prices jumped from 0. Pulses, with a weight of 5 per cent in the food group, contributed significantly to food inflation dynamics during the year. The contribution of pulses to overall inflation shifted from 6.
At a granular level, the contribution of arhar in overall pulses inflation declined consistently from July , while the contribution of gram prices, turned increasingly negative month after month till December With the production for pulses during , as per the second advanced estimates, being marginally higher at Arhar and urad prices remain below their minimum support prices MSPs at the mandi level in the major producing states viz.
Corrective measures were initiated by the government during the course of the year such as removal of export ban on all pulses and an imposition of 60 per cent import duty on gram and 30 per cent import duty on masoor in order to support prices and provide some relief to farmers. Sugar and spices are the other items which played an important role in the overall moderation of food inflation. Inflation in sugar and confectionery, which was in double digits all through averaging about 20 per cent , declined significantly during the year, largely due to measures facilitating imports and on expectations of higher domestic production the sugarcane production for , as per the second advanced estimates, is With sugar prices easing rapidly, however, the central government has again raised the import duty on sugar to per cent and re-imposed stockholding limits on sugar sales for February and March Prices of spices have moved into deflation since June on account of a fall in prices of dry chillies, turmeric, dhania, and black pepper.
Fuel and light inflation, which was at 5. Since the migration of subsidy payments on LPG to banks under the direct benefit transfer scheme, LPG prices track international prices closely.
Administered kerosene also registered sustained price increases as OMCs raised prices in a calibrated manner. Fuel and light inflation since December has eased driven by the downturn in LPG inflation, reflecting international price movements, as well as on account of moderation in firewood and chips and dung cake inflation.
Turning to the underlying inflation dynamics, CPI inflation excluding food and fuel edged up from the June trough of 3. The substantial increase largely reflected an increase in housing inflation Chart II. Inflation in CPI excluding food and fuel, as also petrol and diesel, increased from June by basis points to 5. While the HRA impact explained much of this increase, petrol and diesel initially in Q3, had a dampening effect as much of the pass-through of surge in international crude oil price to domestic prices was delayed to the second half of January Further, excluding the four volatile items — petrol, diesel, gold and silver — and housing, the inflation in February was 70 basis points lower at 4.
For goods, inflation picked up across commodity groups: Services inflation increased by basis points over June Chart II. The contribution of transport services also edged up in recent months, as fuel prices were transmitted to increase in transportation fares. In contrast, communication services inflation has remained muted due to low cellular services inflation.
Thus, the HRA impact was reflected only in January After the June trough, inflation measured by trimmed means in the CPI hardened for the rest of Thereafter, all trimmed means, including the weighted median, edged down, reflecting, inter alia, the broad-based softening of food prices Chart II.
Underlying cost conditions have mostly co-moved with measures of inflation, ticking up in H2: Y-o-y growth in farm input costs slipped temporarily into negative territory in January Chart II. The rise in global crude oil prices and the hardening of metal prices fuelled the rise in input costs from August onwards and contributed to the turnaround in domestic non-farm input costs as they got passed on to inputs such as high speed diesel, aviation turbine fuel, naptha, bitumen, furnace oil and lube oils.
Among other industrial raw materials, domestic coal inflation generally remained high during the year, tracking the surge in international coal prices and domestic supply shortages.
However, inflation in other inputs depicted a mixed behaviour. In the case of oilseeds, inflation picked up during H2: Inflation in electricity, which carries a high weight in both industrial and farm inputs, rose during September-October , but turned negative thereafter.
Among other farm sector inputs, diesel prices increased sharply from August , mirroring international prices, while prices of inputs such as tractors and fodder increased sharply in February after contracting in the preceding months. Fertiliser prices also recorded some upward pressure during December-February. Growth in rural wages largely moderated since August Chart II. In general, nominal rural wages and inflation tend to move together. However, large supply shocks have caused a divergence between the two in the recent period Box II.
Staff costs in the organised manufacturing sector rose between Q3: The y-o-y growth in per employee cost for the manufacturing sector moderated to Staff costs in the services sector continued to decelerate from Q4: Firms expect the cost of raw materials to rise further in Q1: The co-movement of output prices with input prices suggests that pricing power is returning.
In PMI services, there was a sharp acceleration in input prices in Q3, with the input services price index reaching its highest level of The prices of services continued to increase in Q3 and Q4, though its momentum moderated with the downward revision in GST rates for many services.
Rural wages and inflation have moderated since early , but with considerable divergence in their trajectories, particularly since July Chart II. Historically, nominal wage growth and inflation tended to move together with inflation generally leading nominal wage growth, though with a slow speed of adjustment to disturbances Kundu, An important issue that arises in this context is whether evolving economic activity has affected rural wages and inflation differently.
Drawing on Knotek et al. In the first specification, a wage Phillips curve with rural wage inflation as the dependent variable and economic activity measured by output gap OG 6 as the independent variable was estimated:.
The second specification consisted of a price Phillips curve with CPI rural price inflation as the dependent variable and economic activity measured by OG as the independent variable:.
Both specifications were estimated for the period to for 15 major states. In the case of the rural wage Phillips curve, nine occupations 7 were considered, while the CPI-Rural inflation Phillips curve was estimated with five major groups 8. The regression results Table II.
Columns 1 and 2 show that while the rural wage Phillips curve holds for the recent period, i. However, in order to further analyse whether the price Phillips curve holds for a measure of underlying inflation rather than the overall inflation, which is often subject to large supply shocks from food and fuel prices, an alternate specification with CPI-Rural inflation excluding food and fuel as the dependent variable was also estimated:.
In this case, OG is found to be statistically significant and of broadly the same magnitude as in the wage Phillips curve. Taken together, these results suggest that economic activity is a significant determinant of movements in both rural wages and CPI-Rural excluding food fuel inflation but not the overall CPI-Rural inflation which includes both food and fuel. Rural food inflation since gyrated in a wide range of - 0. In other words, the recent divergence in rural wage growth and inflation could be explained by large supply side shocks affecting rural food inflation Chart II.
What Role does Inflation Play? Going forward, a key risk to the inflation outlook is the risk of fiscal slippages in a scenario of rising aggregate demand. As noted in the MPC resolution of February , apart from the direct impact on inflation, the fiscal risks could also engender a broader weakening of macro-financial conditions. The revised guidelines for arriving at the MSPs for kharif crops proposed in the Union Budget , along with proposed increase in customs duty on a number of items, is likely to push-up inflation over the year.
In addition, how various state governments implement and disburse HRA increases would have a considerable bearing on CPI housing inflation and consequently on the headline inflation trajectory, albeit statistically, during ; therefore, the latter should be looked through for monetary policy purposes, other than for their second-round effects. Although the central government's HRA effects on CPI inflation would gradually wane from July , this moderating impact could be more than offset if several state governments simultaneously implement HRA increases in H2: A reading above 50 for the diffusion index signals a broad expansion or the extent of generalisation of price increases and a reading below 50 signals a broad-based decline in prices.
The VAR can be written in companion form as: Using Wold decomposition, Y t can be represented as a function of a deterministic trend and sum of all the shocks e t. This formulation allows to decompose the deviation of inflation from the deterministic trend as the sum of contributions from various shocks.
Similarly, price inflation also did not witness any stark heterogeneity across states, barring a few exceptions. However, the price inflation in all different sub-groups were significantly different.
Both price inflation and wage inflation were significantly lower in and in comparison with Aggregate demand growth accelerated in H2: Aggregate supply conditions were buoyed by the robust performance of the manufacturing sector and the improvement in activity in the agriculture and services sectors.
Domestic economic activity shrugged off the loss of speed that had characterised the period Q1: In terms of aggregate demand, the drivers around this inflexion are shifting, with consumption-led growth of the recent past handing over the baton to investment, which had restrained growth since Q3: At the same time, the strong impetus from fiscal spending during Q3: On the supply side, the pickup in industrial output from Q2: Meanwhile, agriculture and allied activities have turned out to be resilient to temporary weather disruptions in both kharif and rabi sowing seasons and going by recent estimates of foodgrains production, the outlook appears better than before.
Aggregate demand appears to have regained traction in H2: Measured by y-o-y changes in real GDP at market prices, it accelerated to 7. The turnaround in Q2: For the year as a whole, however, the second advance estimates February of the Central Statistics Office CSO indicate that the pace of expansion of aggregate demand is still slower than in the preceding year.
Turning to the underlying drivers, there are small but noteworthy shifts underway. In terms of weighted contributions, the support to aggregate demand from private consumption is waning, supplanted by the burgeoning strength of capital formation after a prolonged hiatus Table III.
A surge in imports led to a higher negative contribution of net exports, which dragged down the overall demand. These developments are discussed in detail in the rest of this chapter.
Private final consumption expenditure PFCE constituted Short-term adverse effects of demonetisation and the implementation of the GST have taken their toll on output and employment in the unorganised sector, most vividly reflected in significant slowdown in exports of labour-intensive goods such as leather goods, textiles, jute manufactures, readymade garments.
Rise in global crude oil prices also appears to have contributed to the slowdown in private consumption. High frequency indicators of urban consumption present a mixed picture. While consumer durables production remained subdued during the larger part of , domestic air passenger traffic, and passenger cars and utility vehicles sales showed robust growth Chart III. Going forward, urban consumption is expected to strengthen with the likely implementation of the award on salaries and allowances at the level of states and other public sector entities.
A sharp growth in personal loan portfolios of commercial banks and the recent pick-up in vehicle loans also augur well for urban consumption Chart III. The turnaround in construction activity — an employment-intensive sector in H2: Indicators of rural demand, viz. The production of consumer non-durables has also recovered markedly Chart III. The share of gross fixed capital formation in GDP, which was trapped in a downturn from a high of As alluded to earlier, this pick-up in the investment rate could be signalling a turning point in the cyclical component of growth oscillations in India and if sustained by a determined policy push, it could produce a level shift in the trajectory of the Indian economy Box III.
Capital goods production — a key element of investment demand — turned around in August and clocked a month high in terms of growth rates in January Chart III.
During so far up to December , the construction of highway projects is on the rise and is expected to have improved further in Q4. The investment rate in real terms has slowed down after Chart III.
As changes in the rate of investment have been historically associated with turning points in the growth path, the trend and cyclical components of the investment rate and its duration of cycle were estimated by applying Hodrick-Prescott HP and Band-Pass BP filters.
While there has been a moderation in the trend component of the investment rate since , the cyclical component has shown an upward movement from the year , suggesting that the recent improvement in investment activity is largely driven by cyclical factors Chart III.
While there are two broad approaches for the measurement of business cycles, viz. In this context, the business cycle and the growth cycle approaches developed by the National Bureau of Economic Research NBER are commonly used for the dating procedure. In the first method Burns and Mitchell, , the business cycle is measured by absolute changes in the general level of production in two steps: In the second approach, a growth cycle is defined as the ups and downs in the deviations of the actual growth rate of the economy from the long-run trend growth rate Zarnowitz, As the real GFCF rate has declined in levels on many occasions during the post period, identification of cyclical peaks and troughs in the observed levels of the economic variables based on the business cycle methodology, which is followed by NBER, is more suitable than the growth rate approach.
For the purpose of measurement of the duration of investment cycle, the cyclical factor measured by Christiano and Fitzgerald asymmetric Band-Pass filter was used as it assigns variable weights and does not exclude end points.
These results, when extrapolated, suggest that the upturn in the investment rate that commenced in Q3: Policy efforts such as improving ease of doing business, speedy resolution of corporate distress, quickly addressing the remaining issues relating to the implementation of the Goods and Services Tax GST and speeding up of the stalled projects, among others, will help ride this phase of the investment cycle to its peak and produce accelerating impulses for the growth trajectory.
Timely and measured interventions hold the key to realise the investment-led growth. Corporate financial results are also mirroring these underlying shifts. The results of listed nongovernment non-financial NGNF companies suggest that manufacturing companies reduced current assets and increased fixed assets in H1: Nominal capex growth across 38 sub-sectors covering industrial and services sectors underwent a broad-based recovery in H1: A sharp pick-up in housing loans by scheduled commercial banks also augurs well for investment in dwellings.
The implementation of stalled projects showed modest improvement Chart III. Going forward, large resource mobilisation from the primary capital market and accelerating non-food credit growth Chapter IV indicate that investment activity could strengthen further if fiscal pre-emptions do not crowd out private investment demand.
GFCE will likely continue to augment aggregate demand going forward into , in view of the deviation of 0. The gross fiscal deficit GFD target of 3. The expectation of an operation can be positive or negative only if a price fluctuation occurs — a priori it is zero.
Modern Portfolio Theory refers to the idea that each investment ought to be selected in consideration of how it will interact with other assets in one's portfolio.
Also, see the sections on Asset Allocation and Diversification. This refers to an improvement on Modern Portfolio Theory. MPT suggests using volatility as the measure of an investment's risk. The problem is that this suggests that abnormally high returns are as much "risk" as abnormally low returns. Most investors welcome high returns and are only sensitive to low returns.
This inspires the idea of considering risk only to be related to abnormal low returns and ignoring abnormal high returns. The most useful such measure of risk would be to consider only abnormal returns below some customized "minimum acceptable return" to be "risk. While traditional MPT suggests optimizing a portfolio on two statistics -- return and volatility, this "Improved" Modern Portfolio Theory suggests optimizing a portfolio on return and some measure of downside risk.
Momentum investing refers to buying stocks that have recently done well and selling stocks that have recently done poorly. There is evidence that this strategy can be successful in the short term before transaction fees are considered, but there is also some reason to believe that transaction fees may tend to "eat up" most, if not all, of any potential profits.
By transaction fees, you need to include brokerage commissions, bid-ask spreads, and market-impact costs. Mortgage refinancing is largely an investing issue. Homeowners are always wondering whether they should refinance, whether they should take additional cash out of their homes, what term of mortgage should they get, what points should they pay, etc. What is the best way to do so if one desires to capture the beneficial effects of several of these factor premiums within a portfolio?
Fees should be one of the primary considerations when selecting a mutual fund. Much of investing requires dealing with uncertainties. Fees, however, are one of the few important factors that you have complete control over.
It is almost always prudent to minimize fees, unless you have a compelling reason not to. Mutual Fund Persistence refers to the question of whether past performance of a mutual fund has any positive correlation with future performance.
The lack of persistence in mutual funds and pension funds, etc. The root of this issue is whether it is possible for ANY actively -managed mutual fund to consistently achieve superior risk-adjusted returns.
This is an important question. If the answer is no, then it implies that actively managed funds should be avoided because they tend to be more expensive. If the answer is yes, then it inspires a separate, but equally important, question of whether it is possible to identify the few funds which will consistently outperform in advance. We believe that, while it is possible for an actively managed fund to occasionally achieve superior returns through good luck, it is impossible to identify those lucky mutual fund managers in advance.
The majority of well-done studies tend to support a lack of persistence for all but the worst performing equity mutual funds. The question of whether to invest in actively or passively managed mutual funds is an important one. Both theoretical arguments see Efficient Market Hypothesis and empirical evidence see Mutual Fund Persistence suggests that passive management e. This section addresses how a corporation should invest its pension assets.
Note that what is appropriate for a corporation is not necessarily also appropriate for individuals trying to fund their own retirements. Is it possible to evaluate the relative "goodness" of an investment manager? If so, how should one go about it? What should be avoided? Also, see the section on Risk Measures and Performance Measurement. In other words, the investor client will be equally justified and reasonable to terminate a manager for out-of-control results above the market as for out-of-control results below the market.
Staying with a manager who is not conforming his or her portfolio performance [to agreed-upon investment policy] or to prior promises is speculation — and ultimately will be 'punished. When evaluating the performance of a mutual fund or other investment, one must somehow adjust it for the relative riskiness inherent therein. There are three primary means of doing so: Also, see the section on Risk Measures and Performance Evaluation. There is reason to believe that stocks of currently profitable companies tend to have higher subsequent returns than stocks of less profitable companies, all else being equal.
In addition to the articles below, for a good introduction to the Prudent Investor Rule, see here. The company stock trades just like any other stock. Rebalancing refers to periodically restoring a portfolio's asset allocation to its target proportions.
If you don't rebalance, the portfolio naturally drifts from its target allocation. This either increases or decreases your portfolio's risk profile, neither of which is desirable assuming that the risk profile is appropriate for the investor in the first place.
Reversion to the mean is the phenomenon discovered by Charles Darwin's cousin, Sir Francis Galton whereby a stock's average performance or a mutual fund's, or many other non-investing statistics tend to become more average i. If true, this implies that recent good performers are perhaps somewhat more likely than average to be below average performers in the future and vice versa.
This idea is supported by much of the research. Also, see Mutual Fund Persistence. This benefit can be substantial and should be considered as part of retirement planning. A strong case can be made not only to include the income in future cash-flow plans, but to include the present value of future Social Security benefits as a current asset in your portfolio when doing asset allocation it is closer to an inflation protected bond than anything else.
Survivorship bias refers to the phenomena whereby the past records of existing mutual funds are examined to determine various trends.
The problem lies in the fact that you are only examining the past records of currently existing funds — funds which ceased existence in the past are not included in your data. This tends to cause one to falsely conclude that the average mutual fund has performed better than is actually the case because the funds which cease to exist and are therefore removed from the sample universe tend to be the poor performers.
Due to survivorship bias, it is actually possible to falsely conclude that the average dollar invested in mutual funds performed better than average! Also, see mutual fund persistence. Synthetic indexing refers to a strategy of replicating an index by buying futures or derivatives on an index, rather than buying the underlying securities making up the index.
Implicit in the price of a futures contract is an assumed interest rate covering the period from purchase of the contract to the contract expiration date. The futures themselves are typically a relatively small portion of the portfolio enough futures are bought to simulate full investment in the index.
An even smaller portion of the portfolio is set aside in very short-term treasuries as collateral. The remaining cash is typically invested in a bond portfolio with a goal of trying to exceed the interest rate assumed in the pricing of the futures contract.
If the bond portfolio can earn a better risk-adjusted return than the interest rate implicit in the futures price, it is possible to have better risk-adjusted returns than the index before fees. The above discussion describes synthetic indexing. There are several other means of "enhanced" indexing. Anybody who has investments in a taxable account i. Tax loss harvesting is an important means of doing so. Also, see the section on Tax Managed Investing.
Taxes are just another type of investing expense that ought to be prudently minimized. Also, see the sections on Dividends and Tax Loss Harvesting. Variable Annuities are appropriate for almost nobody. Their high costs generally dramatically outweigh the potential benefit of tax deferral except for the lowest cost annuities for persons with investment time horizons of many decades.
The asset class is highly tax-inefficient. You have run out of retirement vehicles in which to put this investment. There are ways out ," Dallas Morning News , May 13 A good description of how to harvest a loss in a variable annuity for its tax benefit. There is a reference to Revenue Ruling Glenn Daily, " Just say no to cash values ," Glenndaily. This fascinating article suggests an interesting reason to use a Variable Annuity: If you just cash in such a policy i.
But if you instead do a exchange into a low-cost variable annuity, and then wait for the annuity to grow to the level of the tax basis, and then cash in the variable annuity, you get to avoid taxes on the gains between the current value and the higher basis, which is inherited from the whole life policy. Yongling Ding and James D. This article exposes Variable Annuities as the poor investments they usually are. Actually, that's not completely true — they are the preferred choice for Variable Annuity salespeople who make large commissions on each sale.
This paper shows that average cost annuities are appropriate for virtually nobody. This paper critiques work by John Huggard which is often cited by Variable Annuity salespeople, professing to prove the superiority of Variable Annuities.
Reichenstein exposes Huggard's work as sloppy charlatanism. In answer to the question posed in the title, there are three classes of investors for whom low cost VAs may make sense: He goes on to point out that average or high cost VAs are appropriate for nobody. William Reichenstein, "Tax-aware investing: A good summary of tax management issues. Toolson points out that the break even point whereby the tax-deferral benefit of a variable annuity outweighs the VA's extra costs may be as long as 50 years, or perhaps even longer.
This article points out that the Jobs and Growth Tax Relief Reconciliation Act of has made Variable Annuities even less attractive than they were before. This note puts brokers and commission-based financial advisers on notice that their industry's self-regulatory organization is wise to their efforts to prey on unsuspecting consumers through forced sales of these almost-always unsuitable products.
What You Should Know ," U. Securities and Exchange Commission, June An overview of Variable Annuities. Miscellaneous Other Frank Armstrong, " Strategy vs. Outcome ," Investor Solutions, December 12 A good article pointing out the truth that a good strategy doesn't necessarily produce good short term results and a bad strategy doesn't necessarily produce bad short term results.
Put somewhat differently, you can have good results from poor strategy if you are particularly lucky and bad results from good strategy if you are particularly unlucky.
Thus, you can't necessarily judge the "goodness" of an investing strategy based on how it well it performed or would have performed in the recent past. Good readable summary of "recent" developments in financial economics. An excellent discussion of the types of random "tracking error" you should expect in certain types of passive portfolios, in particular those of tax-managed funds which also minimize dividends.
An excellent overview of many of the leading innovations in financial economics. Written by a Nobel Prize winner. This excellent video describes prudent investing in general. This web page contains the current opinions of Eric E. Haas at the time it is written — and such opinions are subject to change without notice.
This web page is intended to serve two purposes: We believe the information provided here to be useful and accurate at the time it is written. Information contained herein has been obtained from sources believed to be reliable, but is not guaranteed. No investor should invest solely on the basis of information listed here. This information is not intended to be a substitute for specific individualized tax, legal, or investment planning advice.
Where specific advice is necessary or appropriate, Altruist recommends consultation with a qualified tax adviser, CPA, financial planner, or investment adviser. If you would like to discuss the rationale or support for any particular idea expressed on this web page, feel free to contact us. Defined Benefit Pension Plans.
Defined Contribution Pension Plans. Diversification of Concentrated Positions. High-Yield Bonds Junk Bonds. Long Term Care Insurance. Modern Portfolio Theory using Downside Risk. Reversion to the Mean. Social Security Retirement Benefits. Ian Ayres and Barry J. This outstanding paper discusses the idea of spreading one's stock exposure more evenly across their lifetime, which should then reduce the riskiness surrounding the ending wealth.
Here's an excellent website where the authors discuss this idea. Here's the outstanding book where they elaborate in depth on this idea. This outstanding article covers the same ground as the "Diversification Across Time" paper above, but at a level which is more readable for the layperson. Randolph Hood, and Gilbert P. This was the paper which revolutionized portfolio construction by emphasizing the importance of asset allocation.
It found that, on average, Further, it found that active management resulted in an annual reduction of 1. Singer, and Gilbert P. Bogle, " The Riddle of Performance Attribution: Vanguard's founder concludes that, while asset allocation is very important, controlling costs is also very important.
Much of the advice presented to investors during periods of unusual market activity should be ignored. It is more important to rebalance the retirement portfolio on the basis of a change in risk aversion, rather than on the conditions in the financial markets. Pragmatic advice on asset allocation. For a smaller file version, see here kb. This paper studies the relative efficacy of various asset classes as inflation hedges. It finds that treasury bonds are a complete hedge against expected inflation.
It also finds that private residential real estate is a complete hedge against both expected and unexpected inflation. Gibson, " A Timely Reminder: The recent market tumult offers a perfect opportunity to remember the advantages of a diversified, balanced portfolio ," Financial Planning , October An excerpt from Mr. Gibson's outstanding book, Asset Allocation: Another outstanding version of his timeless message, reprinted from its original appearance in this Journal in March This study builds on Reichenstein and Sibley papers below.
Steven Horan, " An alternative approach to after-tax valuations ," Financial Services Review , 16 , pp. Junkans, and Carmen M. This study reviews and revises the Brinson studies above. This study concludes that strategic asset allocation only explains about In general, we do not agree that most retirees should use such a high stock allocation unless they have a very high willingness and ability to tolerate risk.
Ibbotson and Paul D. An analysis of criticisms of the two "Determinants of Portfolio Performance" papers. Lummer and Mark W. This paper also appeared in Global Asset Allocation: This excellent article puts Monte Carlo simulations into perspective. Consumers are increasingly being led to believe that use of a Monte Carlo simulator accurately projects the probability of meeting their financial goals. The article correctly exposes this fraud.
We believe that Monte Carlo simulators may be useful in educating clients about the nature of risk and return tradeoffs, but they certainly shouldn't be counted on to determine one's asset allocation.
The principal problem with them is that the entire analysis depends solely on the validity of the data inputs as predictors of the future. Unfortunately, there is only one thing we know for certain about those inputs, whatever they might be: Good bibliography at the end and good sidebar by John Kingston. Perold and William F. This paper studies three dynamic asset allocation strategies: Buy-and-hold, portfolio insurance both constant proportion and options-based , and constant-mix.
The paper concludes that each might be most appropriate in certain market conditions or for certain clients.
We believe that the constant-mix strategy is most appropriate for most individual investors in that it controls the amount of risk in the portfolio. Controlling risk not only controls expected return, but it tends to preclude investors from allowing well-documented psychological phenomena to influence them to do things which are adverse to their financial well-being.
This paper builds on the Reichenstein and Sibley papers below. Yet another similar paper, " Calculating the family's asset mix ," appeared in the Financial Services Review , Volume 7 Number 3 1.
Another similar paper, " Implications of principal, risk, and returns sharing across savings vehicles ," appeared in the Financial Services Review , Volume 16 , pp. This paper suggests that asset allocation should be calculated on the basis of post-tax values of your portfolio. Here are the ten lessons referred to in the title: Mixing bonds and stocks moderates portfolio risk;. Portfolio risk rises disproportionately slowly as stocks are added to the portfolio;.
An all-bonds portfolio is not the lowest-risk portfolio;. Portfolio returns rise disproportionately quickly as stocks are added to the portfolio;.
An often-overlooked risk for the long-run investor is the risk of having a too-conservative portfolio;. By rebalancing once a year, you maintain a stable risk exposure;. A balanced portfolio avoids market timing;. Due to rebalancing, if an asset class becomes overvalued, you will be selling it as it rises; and, if an asset class becomes undervalued, you will be buying it as it falls;.
Rebalancing provides a discipline that helps investors overcome inertia;. A fixed-weight strategy takes little time and it can save time at tax time.
This paper, written by a Nobel prize winner, warns against market timing, warns against active management, and generally supports the prudence of strategic asset allocation.
Samuelson, "Asset allocation could be dangerous to your health: Pitfalls in across-time diversification," Journal of Portfolio Management , Spring , pp. This paper, written by a Nobel prize winner, warns against tactical asset allocation and is consistent with the prudence of strategic asset allocation.
An excellent discussion of how to get an after-tax valuation for a retirement account. Due to the assumption made that the taxable equivalent investment is perfectly tax inefficient, the equations' applicability is limited only to valuing bond investments. An excellent discussion of how to hedge against various types of inflation risk. It suggests that international diversification, inflation-indexed bonds, and commodities are the best hedges against inflation.
Another critique of the two Determinants of Portfolio Performance papers. A summary of the issues. Kinniry, " The Asset Allocation Debate: Douglas Van Eaton and James A. This article provides support for the idea that an investor's equity exposure should be somewhat proportional to their time horizon actually it should be somewhat proportional to the ratio of existing assets to future savings. This slide presentation summarizes Chapter 10 of the referenced book.
The highlight as it applies to this topic: In general, bid-ask spreads: The appendices here are outstanding. They summarize the important existing research on the bid-ask spread.
This paper suggests a simple formula for the effective Bid-Ask spread in an efficient market. See here for a good discussion of this paper. This paper finds that serial return covariances are strongly negatively correlated with the square of the bid-ask spread.
Further, the paper finds that the bid-ask spread can be broken down empirically into the following components: Details the rationale behind DFA's fixed income strategies. An excellent, very readable article. This excellent study quantifies the extent of typical bid-ask spreads for individual municipal bonds they're big.
The bid-ask spread is effectively a transaction cost. Effectively, any time you buy or sell a municipal bond, you pay one-half of the bid-ask spread as a transaction cost, perhaps in addition to a brokerage commission.
For a good discussion of this study, see the Zweig article below. Athavale and Terry L. This outstanding paper suggests that it makes sense to buy bonds when you need them, even if that happens to be in a rising interest rate environment.
Berger, " Global Bonds and Emerging Debt: Worth Considering or Worth Forgetting? This paper points out the diversification benefits of investing a portion of your fixed income portfolio overseas. This paper looks at the pros and cons of using muni bond funds vs. This study concludes, " Overall and for subcategories of bond funds, we found that bond funds underperformed relevant indexes. Davis, " The Information in the Term Structure: Details the empirical support for DFA's "variable maturity" strategy.
This paper confirms strong persistence in money market mutual funds due principally to the almost perfect negative correlation of expenses and performance. The paper strongly supports the prudence of a strategy of selecting money market funds by cost i.
Implications for investors," Journal of Portfolio Management , Spring , pp. This paper confirms that short term bonds offer superior risk-adjusted returns to those offered by longer term bonds.
In fact, most of the average reward to extending maturity probably occurs by the time maturity reaches one year. This paper confirms persistence in municipal bond mutual funds due principally to the almost perfect negative correlation of expenses and performance. The paper strongly supports the prudence of a strategy of selecting municipal bond funds by cost i.
Donaldson, " Taxable Bond Investing: An excellent paper which compares and contrasts the pros and cons of buying individual bonds vs. Harris, and Michael S. Effective spreads in corporate bonds average 1. Corporate bond transaction costs are much lower for institutional-sized transactions. This paper studies the factors which influence the difference between returns on corporate bonds and government bonds. Eun and Bruce G. Resnick, "International Diversification of Investment Portfolios: Updates the empirical support for DFA's "variable maturity" strategy.
Fama and Robert R. This paper suggests that long forward interest rates have significant power in predicting future spot interest rates. This paper suggests that book-to-market ratio and market capitalization have explanatory power for the cross section of corporate bond returns, just as they do for stocks.
This paper quantitatively answers the question, "Which is better for an individual investor: A bond fund or individual bonds? Since such funds are generally available e. Delroy Hunter and David P. This paper finds that, during the period to , there was benefit to diversifying a bond portfolio overseas, but only if you hedged the currency risk.
Duration, equity market, and short-dated credit risk," Journal of Portfolio Management , Winter , pp. This outstanding paper looks at what return enhancing strategies are most "worthwhile" for bond investors: It finds that the highest increase in risk adjusted returns comes from extending duration from treasury money market to the 1 to 3 year range, and from increasing credit risk from zero Treasuries to investment-grade corporates.
This paper supports a strategy of using short-term investment grade corporate bonds as the non-inflation indexed bond component in your portfolio. This also implies that 1 ensuring proper diversification and 2 reducing transaction costs are of more importance in managing investment-grade portfolios than a detailed credit analysis of individual bonds. This seminal paper laid out clearly some of the principal phenomena affecting bond pricing.
Merton, " On the Pricing of Corporate Debt: This paper suggests that corporate bonds can be modeled as riskless bonds i. As the company's prospects become better, the stock's price increases, which causes the value of the put to decrease which is good for the bondholders who issue the virtual puts , which causes the value of the bond to increase, which causes the yield on the bond to decrease.
On a separate line of thought, as the company becomes riskier, the value of the put increases which is bad for the bondholders who issue the virtual puts , which causes the value of the bond to decrease, which causes the yield on the bond to increase. This is how high-yield bonds get to be high-yield bonds! Mishkin, "The Information in the Term Structure: A good discussion of issues around investing in bonds. Apparently investors would do much better engaging in highly leveraged investments in bills instead of purchasing long maturity bonds or common stocks.
This paper finds that relative bond fund returns are somewhat predictable. For funds with similar duration and credit worthiness, the difference in returns is likely to be similar to the difference in expense ratio.
The gross returns for Intermediate-Term bond funds were consistent over five year periods, but less so for shorter periods with the yield on five year treasuries at the beginning of the period.
The gross returns for Long-Term bond funds were consistent over ten to twenty year periods, but less so for shorter periods with the yield on twenty year treasuries at the beginning of the period. This paper finds a strong persistence in bond fund performance. It suggests this is due to the strong negative correlation between a bond fund's expenses and its performance.
In other words, this paper suggests that selecting bond funds by price i. Vance Roley and Gordon H. This excellent paper describes, theoretically, how bond yields respond to changes in the Federal Funds Target rate — and why.
Sandeep Singh and William H. Jason Zweig, " The dark side of the muni: Municipal bonds seem safe, but buying or selling them is fraught with peril. Protect yourself ," Money , August 20 This article discusses the high transaction costs of buying and selling municipal bonds, as well as market inefficiencies of the municipal bond market, at least from the perspective of an individual investor.
Cain, George Lowenstein, and Don A. Moore, " The Dirt on Coming Clean: This study confirms the prudence of requiring fiduciaries to avoid, rather than merely disclosing, conflicts of interest. While disclosure has been proposed as a potential solution to this, we show that disclosure can have perverse effects, and might even increase bias.
Disclosure may increase bias because advisors feel morally licensed and strategically encouraged to exaggerate their advice even further from the truth. As for those receiving the advice, proper use of the disclosure depends on understanding how the conflict of interest biased the advice and how that advice impacted them.
Because people lack this understanding, disclosure can fail to solve the problems created by conflicts of interest. An excellent introduction to the CAPM. Fama and Kenneth R. This excellent paper discusses some of the major problems with the CAPM.
This paper discusses the implications of one of the assumptions of the CAPM — that there is complete agreement among investors about probability distributions of future payoffs on assets. This is from a college course. It is an excellent introduction to the CAPM. Sharpe, " Capital Asset Prices: Sharpe the Nobel Prize. Elfrena Foord, " Philanthropy Phillips and Thomas R. Robinson, "Charitable Remainder Trust: A good primer on Charitable Remainder Trusts. A good discussion of Donor-Advised Funds.
This interesting article a chapter from a book is geared towards organizations who might be considering starting a Donor-Advised Fund. Dominic Gasbarro, Richard D. This paper examines the "mean-reverting" tendency of closed-end funds. Specifically, it examines the hypothesis that funds sold at a discount to NAV tend to have their discount narrow i. The truth of this hypothesis is important for investors who desire to engage in closed-end fund arbitrage.
This paper suggested that it seemed possible to get significant abnormal positive returns through investing in deeply discounted closed-end funds. Specifically, this paper found at least two reasons to consider deeply discounted closed-end funds: The expected returns on a deeply discounted closed-end fund are much higher than the expected returns on a similar portfolio of the underlying securities.
Even if the discount doesn't narrow, you get all of the income from the underlying securities with a fraction of the up-front investment. Fund discounts seem to narrow when the market falls and increase when the market rises. This suggests that closed end funds might make good diversifiers, all else being equal. This interesting paper finds that the prices of closed end funds are about 64 percent more volatile than the assets they hold.
This is yet another reason to think twice before attempting a closed end fund arbitrage strategy. Carolyn Reichert and J. This interesting paper models the results of a simple investment strategy designed to take advantage of the presumed tendency of a closed-end fund which is trading at a discount to have its discount lessen over time. Specifically, this paper analyzes a strategy of buying the closed-end funds with the greatest discount, holding them for one year, then replacing them with the funds which a year later are available at the greatest discount.
Even when marginally significant before-tax returns are available, transaction costs and taxes erode the benefits. Excess returns are not possible for investors lacking the time or resources to actively trade in the marketplace. Small investors following simple trading rules with a minimum of rebalancing are unlikely to earn the abnormal returns documented in earlier studies.
This should serve as a warning to investors lured by the promise of excess returns from CEIC [Closed-End Investment Company] funds selling at discounts.
It is important for small investors to be aware of the need for additional monitoring, more frequent trading, larger initial investments, or short selling if they want to use CEIC funds to outperform the market. Investors wanting to avoid these complications should consider alternative investments.
Rex Thompson, "The information content of discounts and premiums on closed-end funds," Journal of Financial Economics , 6, pp. In addition, the results are quite uniform throughout the period. Everyone touts the benefits of college savings plans. But compared to the alternatives, are they really that extraordinary? A good discussion of these issues. Also here and here. This excellent paper finds that the advantages of the and Coverdell ESA rise sharply with income.
While they still make sense for low income people, and Coverdell plans are a dramatically better "deal" for high-income savers. Also, see the discussion of this paper here. Dynarski, " Tax Policy and Education Policy: An excellent comparison of plans to other savings vehicles. This note studies the impact of the tax law on college savings. It finds that Coverdell ESAs and plans still tend to be the optimal choice for most investors. The authors survey the various means of saving for college education.
Note that this article preceded the vast tax law changes enacted in