Portfolio management process

Question 1

Fama and French (1996) argued that value stocks are more prone to financial distress and
hence riskier than glamour stocks. Thus (to Fama and French and those who believe that
the market is efficient), they are not surprised to observe the superior performance of value
investing over growth investing and do not consider the finding as an anomaly, i.e., evidence
of an inefficient market. Fama and French regard the higher return realised from value
investing as compensation for the higher level of financial distress risk which is not captured
by the CAPM.

Chan and Lakonishok (2004) referred to the findings of another paper to cast doubt on the
argument Fama and French (1996) put fon~ard to dismiss the anonmaly.

Which paper did Chan and Lakonishok (2004) refer to? What are the empirical findings of
the paper that support their counter-claim that the superior performance of value over growth
investing is an anamoly, and not a realization of additional return required to compensate
investors for the higher risk exposure in value investing?

Question 2

After reading Chan and Lakonishok (2004), you should realize that there are other more
convincing arguments (than risk) that help explain the superior performance of value over
growth. Summarise and use these arguments to explain the past superior performance of
value investing over growth investing.

 

 

Sample Solution

ACED ESSAYS