Venture capitalists will tell you that they never try to time the market. But when they invariably do – in unloading newly public shares, for example – they’re probably not going to gain much of an edge if they adapt their strategy based on academic research. So suggests a new study out of the MIT Sloan School of Management today.
Though not terribly surprising, the study found that the average strategy’s return “decays” by 35 percent after a paper has been published and investors start following it. So if an investor was hoping to squeeze out 5% better returns per year based on a particular finding, they’re more likely to get 3.75% returns in the years following that finding’s publication. For stocks that are less costly to trade and more liquid, the edge could be even less given that more investors are likely to act on the information.
The big lesson, according to the new study’s authors – MIT Visiting Professor David McLean and finance professor Jeffrey Pontiff of Boston College — is that academic research makes the market work better by drawing attention to market mispricing.
What investors should note, meanwhile, is that unless they’re really fast to adapt a new strategy, and then dump it, they shouldn’t count on it to boost their returns.
Or straight from today’s academic research on academic research: “In the short run, publication may induce more acute return predictability. If characteristics are persistent over time, publication will trigger new flows of capital to characteristic portfolios, which, in turn, generate higher returns. These higher returns are temporary, since subsequent returns will be lower due to the reduced mispricing.”
To read the full paper, click here.
Photo: Image courtesy of Shutterstock.