Professional stock investors have two jobs: 1) buying equities and 2) selling them. How well do they perform each role?
Enough studies have occurred so that we have a pretty good idea of how the typical US equity fund manager fares: slightly better than the benchmark before expenses are considered, slightly behind after.
How has this “slightly better than the benchmark before expenses” performance has been achieved? Are professional stock investors: 1) good at buying securities but unskilled at selling them; 2) good at selling securities but unskilled at buying them; or 3) roughly neutral at each task.
In resolving that query, “Selling Fast and Buying Slow: Heuristics and Trading Performance of Institutional Investors,” a draft paper byKlakow Akepanidtaworn, Rick Di Mascio, Alex Imas, and Lawrence Schmidt, tackles these questions.
Three are academics, but the fourth works for an investment-research firm called Inalytics, which collects and analyses such material for its institutional clients. This stock-trading data cannot be found in public filings, nor in any mutual fund database, including Morningstar’s. It is specialised knowledge.
Armed with these figures, the authors studied investment managers’ buy and sell decisions. Each time a US equity fund purchased a stock, the authors determined how that transaction affected the fund’s subsequent performance. They did the same for each security that the funds sold. In all, they evaluated 4.4 million trades, for 783 portfolios, spanning a 17-year stretch.
The authors then distinguished between trades that occurred on the days when companies announced their earnings, and trades that did not. What they found was that professional US stock investors get right are their equity purchases.
Good at Buying, Less Good at Selling
They do well when they buy stocks on the day of earnings announcements; and they do well when they buy them on other days, too. Overall, the authors found that the funds’ newly purchased equities beat the control group by 60 basis points over the ensuring 12 months, and by a modestly larger amount for 24 months. The margin was similar in either case; whether earnings had been announced had little effect. The news was otherwise for the stocks that were sold.
For one, there was a large performance difference between those securities that were sold on the day of an earnings announcement and those that were not. Those unloaded during earnings announcements subsequently trailed the control group, by roughly the margin that the buys exceeded. In other words, professional stock managers were as adept as using breaking information about equities that they immediately sold as they were at using: 1) breaking information about equities that they immediately bought, or 2) non-breaking information about equities that they gradually decided to purchase.
What they couldn’t do well was sell stocks on days when there were no relevant earnings announcements. When investment managers were left to their own devices to sell equities, rather than being forced into the act by earnings news, they fared very badly. In fact, that was their worst decision. On average, the basis points forgone by discarding stocks under such circumstance were greater than the basis points gained from their correct judgments under other conditions.
In other words, among the best decisions that the professional stock managers could have made would have been to buy the very stocks that they chose to sell — those securities that they jettisoned at their leisure, on days without earnings announcements.
John Rekenthaler has been researching the fund industry since 1988. He is a columnist for Morningstar.com. While Morningstar typically agrees with the views of the Rekenthaler Report, his views are his own.
