DID YOU KNOW THAT JUST 4% OF STOCKS
ACCOUNT FOR THE NET GAINS Of THE US STOCK MARKET?
LET US EXPLAIN…
What if we told you that 96% of the stocks in the US equities market fail to return an amount that exceeds the value obtained from investing in risk-free US Treasury Bills? But what if we also state that the US stock market has outperformed the US Treasury market on a net basis since the market has been tracked back to 1926?
Both statements are true. A picture is worth a thousand words, so before we break this surprising information down further, take a look at the chart below. The reason is that just 4% of stocks generate the outperformance of the aggregate tracking.
SO HOW CAN THIS BE TRUE? THE REASON: SKEW
The importance of being invested in the right stocks at the right time cannot be overstated., courtesy of a provocative research paper authored by Hendrik Bessembinder in 2017, Do Stocks Outperform Treasury Bills? (Department of Finance, W.P. Carey School of Business, Arizona State University). The answer is positive skewness.
Skewness is a measure of the symmetry of a distribution. The highest point of a distribution is its mode. The mode marks the response value on the x-axis that occurs with the highest probability. A distribution is skewed if the tail on one side of the mode is fatter or longer than on the other: it is asymmetrical (statista.com). So when we say that 4% of stocks account for 99% of the net gains of the market, that is a result of extreme positive skewness on the returns as a whole of the market.
BETTER STOCKS TEND TO STICK AROUND LONGER, WHILE POOR PERFORMERS GO BUST
Obviously, stocks that are doing well tend to remain listed while struggling ones eventually improve or delist. Interestingly, the median time that a stock is listed on the CRSP database between 1926 and 2016 (when the cited study was conducted) is seven and a half years. Another factor that contributes to the ‘fat tail’ effect of skewness over time is the impact of compounding, when these high performing stocks continue to add gains at a disproportional level over longer time periods.
BUT THIS SOUNDS VERY DISCOURAGING…IF YOU ARE AN AVERAGE INVESTOR
So why are we pointing all this out? Because an active investing strategy that is successful at identifying these outperforming equities at a level consistently higher than the index aggregate performs means that achieving attractive returns is not only possible, but repeatable.
What is required is a sound identification and investing practice over time. If a manager is able to identify and extract this outperformance and allow selection, holding, and the impact of compounding to take effect on a portfolio, it’s reasonable to expect a solid return over time. We at Warhawk look forward to sharing with you more about our abilities in this area, and are excited about the market opportunities ahead in 2023.
Warhawk One is a long/short hedge fund that seeks to grow and preserve wealth that lasts generations. Our clients benefit from a structure that provides sustainable wealth generation with an investment approach that buffers a portion of their portfolio against any market condition.
