Wednesday 2011-02-02

The New Finance, 2nd edition by Robert A Haugen

Haugen builds off of the major (now classic) finding from finance against the efficient market hypothesis: Fama & French's 1992 Journal of Finance value vs growth paper. One can view F&F's work that shows that the prices of "value" companies' stocks outperform those of "growth" as an argument for information (and not as an argument against efficient markets). By adding information, we partition a market into two markets (growth and value), each with their own market risk and return.

Likewise we can partition the market into small and large valuation companies, again with their own risk and return. Are there other stable partitions of markets that yield higher returns? Investors like Buffett indicate so, however it appears that these partitions do not have simple univariate solutions on data commonly collected. Granted, that's an application of "market efficiency" as a crutch that irks some people.

Haugen does not mention the findings from behavioral finance ( many ) or from market dynamics ( fewer ) as possible stable partitions; with the exception of legal restrictions on pension fund managers. Perhaps in the later editions, he expands on them.