Top

Dimensional Perspectives

Whether you’ve been investing for decades or are just getting started, at some point on your investment journey you’ll likely ask yourself some of the questions below. Trying to answer these questions may be intimidating, but know that you’re not alone. Your financial advisor is here to help. While this is not intended to be an exhaustive list, it will hopefully shed light on a few key principles, using data and reasoning, that may help improve investors’ odds of investment success in the long run.

1. What sort of competition do I face as an investor?

The market is an effective information-processing machine. Millions of market participants buy and sell securities every day, and the real-time information they bring helps set prices. This means competition is stiff, and trying to outguess market prices is difficult for anyone, even professional money managers (see question 2 for more on this). This is good news for investors though. Rather than basing an investment strategy on trying to find securities that are priced “incorrectly,” investors can instead rely on the information in market prices to help build their portfolios (see question 5 for more on this).



Key Questions for Long-Term Investors - Exhibit 1

In Australian dollars. Source: Dimensional, using data from Bloomberg LP. Includes primary and secondary exchange trading volume globally for equities. ETFs and funds are excluded. Daily averages were computed by calculating the trading volume of each stock daily as the closing price multiplied by shares traded that day. All such trading volume is summed up and divided by 252 as an approximate number of annual trading days. 

2. What are my chances of picking an investment fund that survives and outperforms?

Flip a coin and your odds of getting heads or tails are 50/50. Historically, the odds of selecting an investment fund that was still around 15 years later are about the same. Regarding outperformance, the odds are worse. The market’s pricing power works against mutual fund managers who try to outperform through stock picking or market timing. As evidence, only 14% of US equity mutual funds and 13% of fixed income funds have survived and outperformed their benchmarks over the past 15 years. 



US-Based Mutual Fund Performance
2003–2017
Key Questions for Long-Term Investors - Exhibit 2

Source: Mutual Fund Landscape 2018, Dimensional Fund Advisors. See Appendix for important details on the study. Past performance is no guarantee of future results. The funds referred to are US mutual funds which are not registered as managed investment schemes with the Australian Securities and Investments Commission and as such these funds are not currently available to Australian investors.

 

3. If I choose a fund because of strong past performance, does that mean it will do well in the future?

Some investors select mutual funds based on past returns. However, research shows that most funds in the top quartile (25%) of previous three-year returns did not maintain a top-quartile ranking in the following three years. In other words, past performance offers little insight into a fund’s future returns.



Percentage of Top-Ranked US Mutual Funds That Stayed on Top
Key Questions for Long-Term Investors - Exhibit 3

Source: Mutual Fund Landscape 2018, Dimensional Fund Advisors. See Appendix for important details on the study. Past performance is no guarantee of future results. The funds referred to are US mutual funds which are not registered as managed investment schemes with the Australian Securities and Investments Commission and as such these funds are not currently available to Australian investors.

4. Do I have to outsmart the market to be a successful investor?

Financial markets have rewarded long-term investors. People expect a positive return on the capital they invest, and historically, the equity and bond markets have provided growth of wealth that has more than offset inflation. Instead of fighting markets, let them work for you.



Growth of a Dollar
1980-2017 (compounded monthly)
Key Questions for Long-Term Investors - Exhibit 4

In Australian dollars. Australian Share Market: S&P/ASX 300 Index (Total Return), Short-term Fixed Interest Securities: Bloomberg AusBond Bank Bill Index and Inflation CPI: Australian Consumer Price Index. S&P/ASX data © 2018 S&P Dow Jones Indices LLC a division of S&P Global. All rights reserved. Data provided by Bloomberg Finance LP. Australian Consumer Price Index provided by Australian Bureau of Statistics. Indices are not available for direct investment. Index performance does not reflect expenses associated with the management of an actual portfolio. Past performance is no guarantee of future results.

5. Is there a better way to build a portfolio?

Academic research has identified these equity and fixed income dimensions, which point to differences in expected returns among securities. Instead of attempting to outguess market prices, investors can instead pursue higher expected returns by structuring their portfolio around these dimensions.



Dimensions of Expected Returns
Key Questions for Long-Term Investors - Exhibit 5

Relative price is measured by the price-to-book ratio; value stocks are those with lower price-to-book ratios. Profitability is measured as operating income before depreciation and amortisation minus interest expense scaled by book.

6. Is international investing for me?

Diversification helps reduce risks that have no expected return, but diversifying only within your home market may not be enough. Instead, global diversification can broaden your investment opportunity set. By holding a globally diversified portfolio, investors are well positioned to seek returns wherever they occur.



Key Questions for Long-Term Investors - Exhibit 6

Data as at 31 December, 2017. Number of holdings and countries for the S&P/ASX 300 Index and MSCI ACWI (All Country World Index) Investable Market Index (IMI) as at 31 December 2017. S&P/ASX data © 2018 S&P Dow Jones Indices LLC, a division of S&P Global. All rights reserved. MSCI data copyright MSCI 2018, all rights reserved. Indices are not available for direct investment. Their performance does not reflect the expenses associated with the management of an actual portfolio. International investing involves special risks such as currency fluctuation and political instability. Investing in emerging markets may accentuate these risks. Past performance is no guarantee of future results. Diversification does not eliminate the risk of market loss. 

7. Will making frequent changes to my portfolio help me achieve investment success?

It’s tough, if not impossible, to know which market segments will outperform from period to period.

Accordingly, it’s better to avoid market timing calls and other unnecessary changes that can be costly. Allowing emotions or opinions about short-term market conditions to impact long-term investment decisions can lead to disappointing results.



Annual Returns by Market Index
Key Questions for Long-Term Investors - Exhibit 7

In Australian dollars. Data is the annual return to 31 December 2017. Data used for each asset class is as follows: Australian Large: S&P/ASX100 Index (Total Return), Australian Small: S&P/ASX Small Ordinaries Index (Total Return), Australian Value: S&P Australia BMI Value Index (gross dividends), Property: S&P Global REIT Index (gross dividends), Global Large + Mid: MSCI World Index, (gross dividends), Global Small: MSCI World Small Cap Index (gross dividends), Global Value: MSCI World Value Index (gross dividends), Cash: Bloomberg AusBond Bank Bill Index, Emerging Markets: MSCI Emerging Markets Index (gross dividends), Fixed Interest: Bloomberg Barclays Global Aggregate Bond Index (hedged to AUD). S&P/ASX data © 2018 S&P Dow Jones Indices LLC, a division of S&P Global. All rights reserved. MSCI data © MSCI 2018, all rights reserved. Data provided by Bloomberg. Bloomberg Barclays data provided by Bloomberg. Indices are not available for direct investment. Their performance does not reflect the expenses associated with the management of an actual portfolio. Past performance is no guarantee of future results.

 


8. Should I make changes to my portfolio based on what I’m hearing in the news?

Daily market news and commentary can challenge your investment discipline. Some messages stir anxiety about the future, while others tempt you to chase the latest investment fad. If headlines are unsettling, consider the source and try to maintain a long-term perspective. 

Key Questions for Long-Term Investors - Exhibit 8

 9. So, what should I be doing?

Work closely with a financial advisor who can offer expertise and guidance to help you focus on actions that add value. Focusing on what you can control can lead to a better investment experience.

  • Create an investment plan to fit your needs and risk tolerance.
  • Structure a portfolio along the dimensions of expected returns.
  • Diversify globally.
  • Manage expenses, turnover, and taxes.
  • Stay disciplined through market dips and swings. 
Previous Post
Next Post

APPENDIX

 

The U.S. mutual funds referred to in this publication are not registered as managed investment schemes with the Australian Securities and Investments Commission and as such these funds are not currently available to Australian investors.

 

Question 2: The sample includes US mutual funds at the beginning of the 15-year period ending 31 December 2017. Each fund is evaluated relative to the Morningstar index assigned to the fund’s category at the start of the evaluation period. So, if, for example, a fund changes from Large Value to Large Growth during the evaluation period, then its return will still be compared to the Large Value category index. Surviving funds are those with return observations for every month of the sample period. Winner funds are those that survived and whose cumulative net return over the period exceeded that of their respective Morningstar category index.

 

Question 3: This study evaluated US mutual fund performance persistence over rolling periods from 2001 through 2017. Each year, funds are sorted within their category based on their previous three-year total return. Those ranked in the top quartile (25%) of returns are evaluated over the following three-year period. The chart shows the average percentage of top-ranked equity and fixed income funds that kept their top ranking in the subsequent period.

 

Questions 2 and 3: US-domiciled open-end mutual fund data is from Morningstar and Center for Research in Security Prices (CRSP) from the University of Chicago. Index funds and fund-of-funds are excluded from the sample. See Dimensional's “Mutual Fund Landscape 2018”  for more detail, including Morningstar categories included in the fund samples. Past performance is no guarantee of future results.

 

All investing is subject to risks, including market fluctuations and possible loss of the principal amount invested. There is no guarantee the strategies will be successful.

 

This material has been prepared by DFA Australia Limited (AFS License No. 238093, ABN 46 065 937 671) and is provided for information only. No account has been taken of the objectives, financial situation or needs of any particular person. Accordingly, to the extent this material constitutes general financial product advice, investors should, before acting on the advice, consider the appropriateness of the advice, having regard to the investor’s objectives, financial situation and needs. This is not an offer or recommendation to buy or sell securities or other financial products, nor a solicitation for deposits or other business, whether directly or indirectly. Any opinions expressed in this publication reflect our judgement at the date of publication and are subject to change.