Growth vs. Value Trading Strategies

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Growth vs. Value Trading Strategies

• Global Asset allocation

John OReilly Sebastian Otero Barba Nikolay
Pavlov Franck Violette
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AGENDA

• Overview of Value and Growth
• Historical Trends
• Goal and The Approach to that Goal
• The Datasets and Regression Results
• Trading Strategy within a single class (small,
  mid, large, and all)
• Trading Strategy among All
• Summary

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Overview of Value and Growth
Growth and Value are two fundamental
approaches Growth stock represent companies
that have demonstrated better than average gains
in earnings in recent years and are expected to
continue delivering high levels of profit
growth. Value Stock represent companies that are
currently out of favor in the marketplace and are
considered bargain priced. Value stocks are
typically priced much lower than stocks of
similar companies in the same industry and may
include stocks of newer companies with unproven
track records. Combining the two styles can help
reduce portfolio volatility because each have
outperformed the other at different phases of the
business cycle.
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Overview of Value and Growth
Valuation Measure Value Growth
Dividend Yield Higher Lower
Price/Earnings Lower Higher
Price/Book Lower Higher
Price/Net Tangible Assets Lower Higher
Price/Cash Flow Lower Higher
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Historical Trends
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Historical Trends
Growth and Value Stock have taken turns leading
the market.
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Goal and The Approach to that Goal

• Goal
• To recommend a Trading Strategy for this year.
• Approach
• Build predictive models for Total Returns of
  small, mid, large, all cap Value Growth
  Indexes.
• Variable selection was top down.
• Selected variables have low correlation to each
  other.
• Variables were parsed based on a number of
  measures.
• Quadratic relationships were explored.
• Mixed style swap, long/short trading strategies
  within cap and among cap.
• Test in Sample Out of Sample.

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The Datasets and Regression ResultsAll Caps
Value Variables
All Cap Value    
Variable Coefficient T-Stat
IT Govt Tres 0.007 5.31
U Mich Concumer Confidence Index Change Squared -0.376 -1.53
U Mich Concumer Confidence Index Change 0.141 3.66
Intercept 0.009 3.20
All variables lagged 1 month    
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The Datasets and Regression ResultsAll Caps
Growth Variables
All Cap Growth    
Variable Coefficient T-Stat
IT Govt Tres 0.007 4.44
U Mich Concumer Confidence Index Change 0.146 3.21
Intercept 0.008 2.64
All variables lagged 1 month    
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The Datasets and Regression ResultsLarge Cap
Value Variables
Large Cap Value    
Variable Coefficient T-Stat
Dividend Yield 87.8784 2.9923
Dividend Yield- -26.8095 -1.4751
Tbill2 -2.2585 -1.6462
10 YR Tsry yield -3 month (annualized) -0.9000 -2.1745
(10Y-3M)2 0.1138 1.3220
Wilshire Growth -0.0792 -1.7136
Intercept 0.4232 0.6133
All variables lagged 1 month    
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The Datasets and Regression ResultsLarge Cap
Growth Variables
Large Cap Growth    
Variable Coefficient T-Stat
Dividend Yield 87.8784 2.992
Dividend Yield- -26.8095 -1.475
Tbill2 -2.2585 -1.646
10 YR Tsry yield -3 month (annualized) -0.9000 -2.175
(10Y-3M)2 0.1138 1.322
Wilshire Growth -0.0792 -1.714
Intercept 0.4232 0.613
All variables lagged 1 month    
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The Datasets and Regression ResultsMid Cap Value
Variables
Mid Cap Value    
Variable Coefficient T-Stat
US IT Gvt 0.8204 0.1351
UM CC -ve 7.2774 3.3173
Value TR ve 1 month lag -0.1569 -1.6304
Value TR -ve 1 month lag 0.4203 3.7026
Intercept 1.8047 4.5946
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The Datasets and Regression ResultsMid Cap
Growth Variables
Mid Cap Growth    
Variable Coefficient T-Stat
3 mo TR 1 month lag 2.5130 3.1131
Aaa Corp Bond Yld -2.8679 -3.3067
Div Yld ve 66.9563 2.2132
Aaa-Tbill ve 1 Month lag 2.2358 2.8514
New Priv Housing Started ve 17.0802 1.9922
New Priv Housing Started -ve -14.5994 -2.0760
Initial Claims Empl. -ve -15.6864 -1.3381
Value TR ve 1 month lag -0.2618 -2.3911
Value TR -ve 1 month lag 0.3804 0.1112
Intercept 3.6653 2.1443
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The Datasets and Regression Results Small Cap
Value Variables
Small Cap Value    
Variable Coefficient T-Stat
Div Yld 1 Month Lag 27.6838 1.0077
Div Yld- 1 Month Lag -14.7026 -0.7724
Baa-Aaa 1 Month Lag 0.5415 0.7720
DPI 1 Month Lag 26.1778 0.8159
DPI- 1 Month Lag 53.0174 0.7524
UM CC 1 Month Lag 1.7595 0.4086
UM CC- 1 Month Lag 9.1889 2.8377
U.S. IT Gvt 1 Month Lag 0.3826 2.7021
Value TR 1 Month Lag 0.1550 2.4375
Intercept -0.7113 -1.0676
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The Datasets and Regression ResultsSmall Cap
Growth Variables
Small Cap Growth    
Variable Coefficient T-Stat
Div Yld 1 Month Lag 19.9367 0.2805
Div Yld- 1 Month Lag -9.9741 -0.2176
Baa-Aaa 1 Month Lag 0.2112 0.1707
US CPI 1 Month Lag -0.0100 -0.3811
DPI- 1 Month Lag 78.3167 0.6299
UM CC 1 Month Lag 7.0662 0.9308
UM CC- 1 Month Lag 8.9642 1.5509
U.S. IT Gvt 1 Month Lag 0.2851 1.1880
Growth TR 1 Month Lag 0.1073 1.6955
Intercept 1.4359 0.2790
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The Datasets and Regression ResultsAdjusted R2
Values
  Adj R2
All-Value 0.1214
All-Growth 0.0888
Large Cap Value 0.0118
Large Cap Growth 0.0202
Mid Cap Value 0.1062
Mid Cap Growth 0.0920
Small Cap Value 0.1164
Small Cap Growth 0.0134
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The Datasets and Regression Results In Sample
Direction Predictions
In Sample Of Direction of Value Returns Correctly Predicted Of Direction of Growth Returns Correctly Predicted of Max(Value Returns, Growth Returns) Correctly Predicted
All 69.0 66.8 47.0
Large Cap 69.2 63.7 47.8
Mid Cap 63.7 64.6 57.1
Small Cap 70.4 59.1 56.6
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The Datasets and Regression Results Out of
Sample Direction Predictions
Out of Sample Of Direction of Value Returns Correctly Predicted Of Direction of Growth Returns Correctly Predicted of Max(Value Returns, Growth Returns) Correctly Predicted
All 25.0 20.8 41.7
Large Cap 66.7 58.3 75.0
Mid Cap 70.8 70.8 41.7
Small Cap 66.7 54.2 62.5
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Trading Strategy within a single class (small,
mid, large, and all)

• If the predicted growth and value return is less
  than the 30 Day T-Bill return, put 100 in
  T-Bills.
• If the predicted growth or value return is
  greater than the 30 Day T-Bill return put 100 in
  either growth or value depending on which has the
  highest predicted return
• Compare with buying and holding 100 value.
• Compare with buying and holding 100 growth.

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Trading Strategy within a single class (small,
mid, large, and all) In Sample Results
In Sample Annualized Return Annualized STD
All Swap Strategy 17.1 13.6
All Value Buy/Hold 14.8 14.5
All Growth Buy/Hold -0.2 17.2
Large Swap Strategy 16.8 14.7
Large Value Buy/Hold 14.8 13.9
Large Growth Buy/Hold 16.4 17.4
Mid Swap Strategy 18.1 15.5
Mid Value Buy/Hold 15.2 14.4
Mid Growth Buy/Hold 13.6 19.9
Small Swap Strategy 19.2 17.1
Small Value Buy/Hold 15.74 13.5
Small Growth Buy/Hold 13.8 22.5
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Trading Strategy within a single class (small,
mid, large, and all) Out of Sample Results
Out Of Sample Annualized Return Annualized STD
All Swap Strategy -39.8 15.4
All Value Buy/Hold 2.8 16.9
All Growth Buy/Hold -33.8 25.4
Large Swap Strategy 2.6 18.0
Large Value Buy/Hold -5.8 16.5
Large Growth Buy/Hold -18.6 22.0
Mid Swap Strategy 8.0 20.0
Mid Value Buy/Hold 2.6 26.2
Mid Growth Buy/Hold -8.9 26.2
Small Swap Strategy 0.5 19.1
Small Value Buy/Hold 10.6 19.0
Small Growth Buy/Hold -1.7 23.3
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Trading Strategy within a single class (small,
mid, large, and all)Out of Sample Predictions
  Predicted Dec '02 Monthly Return Predicted Dec '02 Monthly Volatility Suggested Allocation
All-Value 0.53 20.99 -20.00
All-Growth 1.74 5.47 120.00
Large Cap Value -0.27 16.00 120.00
Large Cap Growth -1.38 25.41 -20.00
Mid Cap Value 0.92 24.09 120.00
Mid Cap Growth 1.82 41.95 -20.00
Small Cap Value 0.79 12.82 120.00
Small Cap Growth 0.01 40.45 -20.00
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Summary

• Value versus Growth performance varies across
  capitalizations.
• Implementing a simple trading strategy created
  larger in sample returns than buying and holding
  value or growth, but with higher volatility than
  value.
• Better In Sample predictions than Out of Sample
  due to different market patterns in the late
  90s. Models prediction estimated to be
  representative for current market conditions.
• A more complex trading strategy can be
  implemented by rebalancing a portfolio each
  period by using the expected returns and
  volatility during the next period for each asset
  class.