At the end of each quarter, we hold our periodic invest committee meeting. The main goal of the committee is to generate ideas and uncover insights that will ultimately benefit our clients by improving portfolio performance or lowering risk. We are extremely lucky to have Umass Lowell’s Tunde Kovacs, PhD, sit on our committee. The former professor of Ethan Brown, Tunde has astounding knowledge of market history, the macroeconomic environment, and is always on top of the latest groundbreaking research in the academic community. The ideas that we generate at each meeting are tested and researched throughout the quarter until we meet again three months later to evaluate our progress. Now that you’re up to speed on how our investment committee works and why it exists, we’re happy to announce that we’ve put one of our proprietary strategies into action. This was an idea that was generated and ultimately debated internally, tested for statistical significance, and finally put into practice. It’s exciting and rewarding to build something from the ground up and get to watch it benefit our clients in front of our very own eyes.
Our idea stemmed from an observation: on days that a stock in our portfolio experienced a big one-day price decline, it had a tendency to bounce back in the coming days and weeks. That might sound obvious, but there’s actually a number of studies out there that say the exact opposite – that after big one-day declines, prices tend to drift lower over time (see above image). So why were we observing the opposite to be true? One of our theories was that it was due to the fact that we own “quality” companies. Quality, in an investment sense, means that companies tend to be highly profitable, have a history of raising their dividends, and are run by strong management teams. This would be in contrast to say, a biotech stock that failed a drug trial – sending the stock down sharply in one day. Because this drug trial was the company’s only potential asset, they run out of cash and slowly head towards bankruptcy, sending the stock lower over time. Something like this is more of a speculative situation, and not indicative of our investment strategy at all. Given this insight, we set out to test a strategy of buying stocks during these big one-day declines – ONLY if they passed muster in terms of our quality bias.
Given this idea, we had our research intern, Harrison Oakes, go back and compile a data set for each time a stock in our portfolio experienced a large one-day price decline. We then measured the returns going forward at various time intervals. Using these results, we compared our companies’ performances after these declines versus that of the general market and their respective stock market sectors. What we found blew us away. Not only did our companies outperform the market during these time periods, but the results were extremely statistically significant! Maybe we sound like nerds, but this was exciting. We’d found an actionable strategy that made sense from a theoretical standpoint, was backed with hard data, and could be implemented at our discretion. In this most recent quarter, we had three opportunities to act on our “Down Day” theory, and in each of the three cases, the companies went on to outperform their benchmarks over the short-term. At the end of the day, our investment committee is serving its purpose – generating ideas and research that ultimately helps to enrich our clients.
The most exciting part is — we have plenty more of these test strategies in the pipeline. Stay tuned as we update you on what we’re working on next. This “Investment Committee Insights” blog topic will be a series going forward, so check back often for the latest updates on our research.