A growing number of studies show that a tiny fraction of stocks account for virtually all the value created in the equity market. Hendrik Bessembinder, from Arizona State University, has been at the forefront in this area of research. We asked him about his findings and the implications for investors.
“The two key findings that surprised me, along with a number of others, are, first, that most stocks do not outperform Treasury Bills in the long run, and, second, that the net long-term creation of shareholder wealth in the stock markets is concentrated in very few stocks.”
Thousands of technology stocks have delivered disappointing returns in the long run as well, so the implication is not as simple as just ‘buy technology stocks
“While I have not investigated this issue systematically, it is clear that a small group of technology-related stocks, such as Apple, Amazon, Alphabet and Facebook, are responsible for a substantial portion of the stock market’s recent wealth creation, particularly in recent years. In a new study, I provide an update on this.1 On the other hand, thousands of technology stocks have delivered disappointing returns in the long run as well, so the implication is not as simple as just ‘buy technology stocks’.”
“I recently released a set of four reports on this subject.2 Among other findings I document that top-performing firms most often have rapid organic, that is not based on acquisitions, asset growth, and in particular have strong cash accumulation. Top-performing firms are more also more profitable on average, despite higher R&D spending, and have profit growth rates that exceed their rapid asset growth.”
“Top performing firms in terms of accumulated rates of return tend to be younger and have more volatile returns as compared to more ordinary firms, while top performing firms in terms of dollar shareholder wealth creation tend to be older and do not have particularly volatile returns. Perhaps surprisingly, given that the distribution of long run market outcomes is highly positively skewed, which gives rise to the concentrated wealth creation outcome top performing firms do not tend to have highly skewed short run returns.”
“The economy is dynamic, perhaps to a greater extent than many realize. That said, stocks disappear from the public market – not just because of poor investment results associated with being on the receiving end of economies’ ‘creative destruction’, but also because companies are frequently acquired, which tends to be a positive event for investors in the acquired firm.”
“As you note, my main research results are attributable to the fact that there is substantial positive skewness in the distribution of long-horizon stock returns. I show, through simulations, that long-run skewness depends on short-run return volatility. Adam Farago and Erik Hjalmarsson3 show more rigorously that the main determinant of long-run return skewness is short-run return volatility. So, I believe the answer is that companies that have completed IPOs in recent decades tend to be riskier firms. Of course, that alone does not mean they were bad investments.”
“The short answer is that I do not know. But it may be the case that the internet-based economy has allowed for more ‘winner-take-all’ outcomes in certain industries.”
“I see no reason to think that the future will be markedly different from the past. Stated differently, I am confident that a relatively small proportion of stocks will be responsible for a large share of market performance over the next decade. Which stocks that will be is, of course, a much harder question to answer.”
There are more people who think or claim to be as talented as Warren Buffett, than there are people who are actually as talented as Warren Buffett
“The implications for investors depend on the efficiency of the market and on the comparative advantage of identifying in advance which stocks will turn out to be long-run winners (or losers). Investors who do not have a comparative advantage along these lines, and who do not have a strong preference for skewness, should stick to low-cost, highly diversified, index funds. The reasons as to why have already been covered in all the textbooks. In addition, a poorly diversified portfolio has a less than 50% chance of beating a diversified portfolio.”
“If the market is not fully efficient – and I think this is the case – investors with the right comparative advantage should be working hard to identify the ‘next Amazon’. The big question is: who has the right comparative advantage? There are more people who think or claim to be as talented as Warren Buffett, than there are people who are actually as talented as Warren Buffett.”
This article is an excerpt of a longer interview published in our new ‘Big Book of Trends and Thematic investing’.
1 Bessembinder, H., 2020. “Wealth Creation in the U.S. Public Stock Markets 1926 to 2019”, working paper.
2 Bessembinder, H., 2020. “Extreme Stock Market Performers, Part I: Expect Some Drawdowns”, working paper. Bessembinder, H., 2020. “Extreme Stock Market Performers, Part II: Do Technology Stocks Dominate?”, working paper. Bessembinder, H., 2020. “Extreme Stock Market Performers, Part III: What are their Observable Characteristics?”, working paper. Bessembinder, H., 2020. “Extreme Stock Market Performers, Part IV: Can Observable Characteristics Forecast Outcomes?”, working paper.
3 Farago, A. and Hjalmarsson, E. , 2019. “Compound Returns”, Proceedings of Paris December 2019 Finance Meeting EUROFIDAI – ESSEC.
The Robeco Capital Growth Funds have not been registered under the United States Investment Company Act of 1940, as amended, nor or the United States Securities Act of 1933, as amended. None of the shares may be offered or sold, directly or indirectly in the United States or to any U.S. Person (within the meaning of Regulation S promulgated under the Securities Act of 1933, as amended (the “Securities Act”)). Furthermore, Robeco Institutional Asset Management B.V. (Robeco) does not provide investment advisory services, or hold itself out as providing investment advisory services, in the United States or to any U.S. Person (within the meaning of Regulation S promulgated under the Securities Act).
This website is intended for use only by non-U.S. Persons outside of the United States (within the meaning of Regulation S promulgated under the Securities Act who are professional investors, or professional fiduciaries representing such non-U.S. Person investors. By clicking “I Agree” on our website disclaimer and accessing the information on this website, including any subdomain thereof, you are certifying and agreeing to the following: (i) you have read, understood and agree to this disclaimer, (ii) you have informed yourself of any applicable legal restrictions and represent that by accessing the information contained on this website, you are not in violation of, and will not be causing Robeco or any of its affiliated entities or issuers to violate, any applicable laws and, as a result, you are legally authorized to access such information on behalf of yourself and any underlying investment advisory client, (iii) you understand and acknowledge that certain information presented herein relates to securities that have not been registered under the Securities Act, and may be offered or sold only outside the United States and only to, or for the account or benefit of, non-U.S. Persons (within the meaning of Regulation S under the Securities Act), (iv) you are, or are a discretionary investment adviser representing, a non-U.S. Person (within the meaning of Regulation S under the Securities Act) located outside of the United States and (v) you are, or are a discretionary investment adviser representing, a professional non-retail investor. Access to this website has been limited so that it shall not constitute directed selling efforts (as defined in Regulation S under the Securities Act) in the United States and so that it shall not be deemed to constitute Robeco holding itself out generally to the public in the U.S. as an investment adviser. Nothing contained herein constitutes an offer to sell securities or solicitation of an offer to purchase any securities in any jurisdiction. We reserve the right to deny access to any visitor, including, but not limited to, those visitors with IP addresses residing in the United States.
This website has been carefully prepared by Robeco. The information contained in this publication is based upon sources of information believed to be reliable. Robeco is not answerable for the accuracy or completeness of the facts, opinions, expectations and results referred to therein. Whilst every care has been taken in the preparation of this website, we do not accept any responsibility for damage of any kind resulting from incorrect or incomplete information. This website is subject to change without notice. The value of the investments may fluctuate. Past performance is no guarantee of future results. If the currency in which the past performance is displayed differs from the currency of the country in which you reside, then you should be aware that due to exchange rate fluctuations the performance shown may increase or decrease if converted into your local currency. For investment professional use only. Not for use by the general public.