Research roundup

18Aug06

A recent topic of discussion on this site has been the importance of quantitative research in developing a workable investment philosophy. This research process is greatly aided by the advent of the Internet and the blogosphere, specifically.

Speaking of the blogosophere, CXO Advisory Group points to a number of sites, including this one, that has pointed their visitors to their fine research articles. We noted a number of sites that we had not heard of.

Brett Steenbarger at TraderFeed notes the use of Alexa as an “alternative” research tool, despite its limitations.

The crew at Ticker Sense does a nice job of culling interesting data from the mainstream media. In this post they note the frequency of the term, “recession” in the press and how the market performs during and after a recession.

Jim Mahar at FinanceProfessor.com highlights an article on the importance of diversifying adequately within an asset class. In short, the benefits of a lower dispersion of returns provides for higher terminal wealth.

On the topic of mutual funds, Tom Lauricella in the Wall Street Journal reviews some interesting results on th topic of “closet indexing.” A new research paper specifically measures the degree to which a mutual fund’s holdings mirror that of their benchmark index. Funds whose holdings look like the index are being paid active management fees for a index-like (or worse) performance.

The most interesting findings was that the most aggressive managers, in the sense that their holdings diverge from the index, are the ones with the best peformance.

In addition, the study found that, in general, funds with higher active-share readings tend to repeat top performance. “It’s consistent with the idea that the most active funds are likely to have more skilled managers,” Mr. Petajisto says.

It is interesting to note the rising prominence of quantitative methods on the social sciences. Sharon Begley in the Wall Street Journal reports on the increasing rigor that political scientists are demonstrating in their research. Moving beyond survey data, political scientists are delving into the underlying psychology involved in political decision making. In a sense, political science is moving in the direction of behavioral finance.

Now political scientists have caught experiment fever — and more, applying well-vetted principles of psychology and even doing brain scans. “The direction is toward cognitive science and neuroscience,” says James Druckman of Northwestern University.

In the end any investment process is only as good as its weakest link. That weakest link is most often the human element. The topic of behavioral finance specifically addresses the numerous biases us humans have, especially when it comes to the matter of money.

John O’Doherty in the FT.com has a nice summary of behavioral finance including this quote by Whitney Tilson:

“Humans are hard-wired to be irrational when it comes to financial decisions. We must understand that, so we don’t become the sucker at the poker table.”

That poker table is there every trading day, therefore remember:

Forewarned, forearmed; to be prepared is half the victory.
Miguel de Cervantes

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