Book Review: Fantasyland

Fantasyland: How America Went Haywire (Amazon,) is about how over the years, Americans have become less rational and more prone to magical thinking.

The author, Kurt Andersen, posits that Americans have self-selected both from a genetic and cultural point of view to believe in fantasies. The rise of social media and the internet has allowed everyone to live in his “own” truth, a fantasy land. He touches upon all weird, non-scientific things that Americans believe to be true, their outlandish religious beliefs, gun ownership and so on.

The main take-away for me was this: a liberal government can keep its populace fed and make sure that the country progresses scientifically and economically. However, it cannot give its citizens purpose. Purpose is something everybody seeks. And if the government cant give it, then religions/cult/tribes will fill the void. And the more vulnerable you are economically, the more you seek out a tribe to be part of.

Read the book!

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Should You Buy What Mutual Funds Buy? [Update]

Back in November-2015, we had concluded that it does not make sense following mutual fund entries and exits from individual stocks. Using an expanded data set of 260 funds, we still reach the same conclusion. Median returns over 10, 20 and 50 days on additions were 0.49%, 1.81% and 4.88% whereas exits clocked -0.01%, 0.90% and 3.27%.

Direct equity investors would do well to ignore what fund managers a doing.

Code and results are on github.

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Can Beta Dispersion be used for Market-Timing?

The paper Beta Dispersion and Market-Timing (SSRN) argues that one can predict crashes by tracking the dispersion of betas of the constituents of an index. The intuition presented in the paper is that when beta dispersion is high, any shock to the high beta stocks could spill over to the low beta stocks and create a broad market correction.

Although the paper proceeds to present a back-test on the US S&P 500 index, there some questions that need to be answered before deploying this strategy:

  1. What is the performance if you remove 2000 and 2008 from the data? Perhaps most of the out-performance can be attributed to skipping these two periods purely due to chance?
  2. Are the results robust over different markets? Perhaps it is unique to the US?
  3. What happens if you change the look-back period of beta calculations? Perhaps it is being data-mined?
  4. What happens if the calculations are continuous rather than sampled at the end of the month? Perhaps its an end-of-the-month effect?

Unfortunately, we don’t have a robust data-set to put this theory to test. However, the chart of the cumulative returns of the NIFTY 100 index vs. the beta-dispersion of its components does not lead to the same conclusion made in the paper.

The code for this analysis is on github.

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Mutual fund portfolio overlap and Active Share

There is a problem of plenty when it comes to mutual funds – direct growth schemes alone number into the high 200s. Investors have responded to this bewildering array of choices by going in for the ‘unlimited buffet’ option. They end up making small investments into a large number of funds. By doing so, they end up owning the whole market – paying active management fee for a passive investment. There are two things investors should keep in mind before adding a new fund to their investment:

  1. What is the new fund’s portfolio overlap with the existing investments?
  2. How different is the new fund’s portfolio from a large-cap and mid-cap index?

The first answer will tell you whether to add the new fund to your portfolio. The second will tell you if you should just replace the fund with an index ETF.

For example, say you own HDFC Mid Cap Opportunities and you are wondering if you should also buy the Birla Sun Life Midcap fund. Here’s how the fund portfolios overlap:

The funds have about 18 stocks in common and a fairly large number of stocks that are not in any of the indices. Given the differing styles, perhaps it makes sense to add the new fund to the portfolio.

The second, also called “Active Share,” shows how different the portfolio is from an index. For example, DSP Blackrock Technology.com Fund has a 26% overlap with NIFTY 100 and a 5% overlap with NIFTY MID100 FREE. Whereas, the HDFC Large cap Fund has a 95% overlap with the NIFTY 100 index. It probably makes sense to replace the latter with an index fund.

For more details about the analysis and its results, please peruse the notebook on github.

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