Cliff Asness: The Replication Crisis That Wasn’t

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In his latest piece titled – The Replication Crisis That Wasn’t, Cliff Asness recommends reading Larry Swedroe and Alpha Architect’s summary of his colleague’s new paper titled – Is There A Replication Crisis In Finance. The summary states:

“For investors, the important takeaway is that despite the proliferation in the literature of a zoo of hundreds of factors, there are only a small number needed to explain the vast majority of differences in returns of diversified portfolios. And those factors hold up to replication tests.  In “Your Complete Guide to Factor-Based Investing,” Andrew Berkin and I suggest that investors could limit their tour of that factor zoo to just the following equity factors: market beta, size, value, profitability/quality, and momentum. We also suggest that investors could consider including the low volatility/low beta factor as well.”

Asness also confirms that more extensive testing of the ‘value factor’, based on the original work of Fama and French, is still a valid factor in producing outstanding results, despite its recent run. Here’s an excerpt from the piece:

We have always, as almost anyone who’s ever had to sit through a presentation from us can confirm, addressed this in two ways: out-of-sample evidence and theory/story. A factor found to have a positive realized return in one place over a limited time period, no matter how good the return, is always suspect. How will it hold up in other geographies, time periods, or even asset classes?

As the great economist Henny Youngman often said, take Fama and French’s original work on the value factor. They did this mainly using one value factor (price-to-book) in one country (the USA) in one asset class (within equities) over a period that now seems way too short (1963 through the late 1980s).

I know I’m old, but we now have more out-of-sample data than they had in-sample data. Since then, researchers have tested it in other countries, using other valuation measures, for selecting equity exposure across countries, and in multiple other asset classes. Researchers have even extended the original results back to 1929 or even further. And, of course, there’s that little matter of the factors holding up since the late 1980s too.

Taken as a whole, the results have been an outstanding confirmation of the initial results for the value factor (and I will be discussing other factors soon). I say this as one very conscious of (nay, obsessed with) value’s recent difficulties (and as one with the temerity to claim these, until a recent partial resurgence, excruciating results don’t really change our long-term estimate of the value factor’s expected return).

And, while you need to account for valuation changes and its negative correlation with momentum to see the strength of the simple price-to-book value factor in the USA since 1990 (BTW, adjusting for valuation changes and examining value in combination with momentum are legit!), the totality of the out-of-sample evidence is way stronger than just that.

You can read the entire article here:

Cliff Asness – The Replication Crisis That Wasn’t

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