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Robert Reid: Nobel prize winners and the focus on price and value

The focus on price alone is not sensible but looking for value is entirely reasonable.

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Several years ago I was analysing fund performance to determine the funds delivering alpha as opposed to expensive beta.

This led me to attend a course in the USA centred round the work of the recent Nobel Prize winner Eugene Fama, to be more accurate he actually shared the award with Robert J Shiller and Lars Peter Hansen.

What’s interesting is that their respective research on how financial markets work and assets such as stocks are priced did not always align and in some cases actually conflicted.

What is accepted is that these three economists effectively laid the foundation for the current understanding of asset prices. The selectors said “It relies in part on fluctuations in risk and risk attitudes, and in part on behavioural biases and market frictions.”

Their work spans almost 50 years of research, beginning with the finding by the University of Chicago’s Fama that it is difficult to predict price movements in the short run.

That conclusion forms the basis for the theory that financial markets are efficient and led to the development of stock-index funds (this is not the same as market trackers).

Following Fama came papers by Shiller and the University of Chicago’s Hansen these focused on longer-run price swings and the extent to which they could be explained by such fundamental features as dividend payouts on stocks and the risk appetite of investors.

Yale University’s Shiller, in particular, did not agree that investors are always logical, using the phrase “irrational exuberance” to explain run-ups in asset prices.
So there we have it, opposing views both seen as having value. It suggests there really isn’t a settled doctrine in investment. 

The award come five years after a financial crisis that drove the U.S. and world economies into their deepest recession since the 1930s. Despite their diversion one aspect of the recession that Fama and Shiller were agreed on was the impact of the fall in house prices on the US economy.

Their conflicting theories are based on their own research and their comments are drawn from analysis and not assumption. Generalisation, whether or not its sweeping, is rarely informative.

I recently tweeted Hargreaves Lansdown head of research Mark Dampier to query a letter he sent to The Times suggesting that low cost was often aligned with poor performance. He went on to suggest that low cost funds had little appeal to HL clients.

The loss of rebates will change the direct platforms’ charging structures to the point where everything is revealed and under these circumstances I think low cost funds will appeal to direct clients. Direct platform clients only ever received a small part of fund manager rebates with most of this money going to the platform.

The focus on price alone is not sensible but looking for value is entirely reasonable.

What the Nobel award underlines is that we need to research to back up our investment views, whatever our philosophy.

As far as charges are concerned, no one minds paying if it is worth it but all too often it’s not.

The time for ad valorem charges may be drawing to a close.

Rob Reid is managing director of Syndaxi Chartered Financial Planners

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