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Foundation Paper: Stock Selection Strategies in Emerging Markets

01-12-2000 | Research | Dick van Dijk, Erica Slagter, Jaap van der Hart In this paper we have confirmed the profitability of trading strategies based on value and momentum in emerging markets. In addition, a selection strategy based on past analysts’ earnings revisions was also found to outperform an equally weighted index of all stocks. The performances of the separate strategies can be enhanced by combining value, momentum and revisions into a multivariate strategy. The strategies can best be applied simultaneously in all emerging markets, as the results are rather unstable for individual countries. Using the strategies for country selection as well increases profitability considerably, but at the cost of higher risk. Our results show that the trading strategies can be implemented successfully in practice by a large investor. The profits of most strategies remain significant for large caps, after correcting for outliers, and after transaction costs. We do not find evidence that the strategies have higher market risk or have a tendency to trade stocks with lower liquidity. Instead, the results are consistent with behavioral explanations. For value stocks, there appears to be an overreaction, as their lower valuation is not justified by later earnings developments. For stocks with high momentum or earnings revisions by analysts, there seems to be an initial un- derreaction to earnings news, as these stocks continue to have high upward earnings revisions for more than six months after portfolio formation.
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