What do we believe?
We believe that all clients desire peace of mind. This requires both clarity around their finances and the confidence that their investments are tailored to their goals and their individual situation. As investors, we are often excited about the prospect of growing our wealth (a.k.a. reward) but are unsettled at the thought of our portfolio losing value (a.k.a. risk). Since investing ALWAYS involves risk, is there a way to bring a better balance between risk and reward and thus improve the odds of achieving investing success over the long term? We believe that the answer is yes, and that the solution can be found in the academic research on investing.
Impact Advisors Group is committed to providing investors with their desired peace of mind. Our preferred approach, rooted in academic theory and years of experience, is to construct investment portfolios that are designed to provide the optimal return for any level of risk over the long term. We also believe in equipping our clients with the knowledge and tools to improve the odds of achieving their goals and feeling confident in their financial future.
Our approach to asset management is driven by five core convictions:
1. Efficient Market Hypothesis
2. Modern Portfolio Theory
3. Factor Investing
4. Risk Matters
5. Investor Coaching
What is the Efficient Market Hypothesis (“EMH”)?
The Efficient Market Hypothesis was developed by Eugene F. Fama. Mr. Fama is an American economist, a distinguished professor at the University of Chicago, as well as the recipient of the 2013 Nobel Prize in economics. Mr. Fama is best know for his empirical work on portfolio theory, asset pricing, and the Efficient Market Hypothesis. Mr. Fama explains EMH like this:
“An efficient market is defined as a market where there are large numbers of rational, profit-maximizers actively competing, with each trying to predict future market values of individual securities, and where important current information is almost freely available to all participants. In an efficient market, competition among the many intelligent participants leads to a situation where, at any point in time, actual prices of individual securities already reflect the effects of information-based both on events that have already occurred and on events which, as of now, the market expects to take place in the future.”
Impact Advisors Group adheres to the strong form of the Efficient Market Hypothesis. We believe that all knowable and predictable information is already priced into securities and that no investor can gain advantage over the market as a whole.
What is Modern Portfolio Theory (“MPT”)?
Modern Portfolio Theory proved that portfolio diversification, or holding a broad range of asset classes, can improve portfolio returns without incurring additional risk (as measured by the standard deviation of returns). The key insight of this theory is that an asset’s risk and return should not be assessed in isolation, but by how it contributes to the overall risk and return of the entire portfolio. The 1990 Nobel Prize in Economics was awarded to Harry Markowitz, Merton Miller, and Myron Scholes for their collaboration on Modern Portfolio Theory.
The work of Markowitz, Miller, and Scholes has had a lasting impact on the way that we invest. MPT assumes that most investors have an aversion to risk. If given the choice between two portfolios with equal expected returns, most investors will select the portfolio that carries less risk (is less volatile). When Markowitz introduced MPT in 1952, he proved that bundling different investment types together can reduce overall portfolio risk. When adding an asset class that is less correlated, portfolio risk declines as some assets “zig” while others “zag”. If a portfolio has the highest return for a given level of risk, it is said to be on the “efficient frontier”.
What is Factor Investing?
In the early 1990s, Eugene Fama and his University of Chicago colleague Kenneth French found that with just three factors that they could explain most of the market returns. Their Three-Factor Model includes:
1. The Market Factor: Stocks versus fixed income.
2. The Size Factor: Small-cap stocks over large-cap stocks.
3. The “Value” Factor: High book-to-market over low book-to-market stocks.
By running econometric regressions on historical stock prices, Fama and French found that small-cap and value stocks have tended to perform better than the market as a whole. Adding these two factors to the standard Capital Asset Pricing Model, which explained about 70% of market returns, improved the explanatory power of the model to as much as 95% of a diversified stock portfolio.
Fama and French also examined other Factors, as have other researchers. For example, we also included Momentum in our portfolio as it has attractive risk/return characteristics when paired with Value. We continue to monitor the academic research as we try to increase our portfolio’s efficiency.
“Nothing happens without risk, but without risk, nothing happens!” – Walter Scheel
While risk cannot be avoided with investing, it can AND should be understood by investors. This understanding can help prevent investors from turning a “realized loss” into a “recognized loss.” This is a critical distinction that can have a large (positive or negative) impact on long-term investing success. Click below to learn more!
We believe that investor behavior plays a crucial role in achieving long-term investing success. Financial markets are complex, fast moving, and often intimidating. To make matters worse, our brains are literally wired so as to work against making rational investment decisions. We believe that a lack of investing confidence is in large part due to an information gap between the client and his/her investment advisor.
Making a long-term investment plan and sticking with it are crucial to investing success. However, it takes discipline and willpower to stick with an investment plan in a bear market. Or, as the boxer Mike Tyson put it: “Everyone has a plan until they get punched in the face.” Uninformed or misinformed investors are more likely to engage in behaviors (shown below) that we believe are detrimental to achieving long-term investing success.
1. Market Timing
2. Individual Security Selection
3. Speculation
Because investor behavior has a material impact on investing outcomes, we prioritize planning, education, and coaching to equip and empower clients to overcome these temptations.
Impact Advisors Group believes that odds of achieving long-term investing success are highest when we build a portfolio that is based upon academic principles, globally diversified, and supported by ongoing investor education.
Academic Foundations + Global Diversification + Investing Confidence = Investing Success!
