Keith P. Anderson

Does Community and Environmental Responsibility Affect Firm Risk? Evidence from UK Panel Data 1994-2006

The question of how an individual firm’s environmental performance impacts its firm risk has not been examined in any empirical UK research. Does a company that strives to attain good environmental performance decreases its market risk or is environmental performance just a disadvantageous cost that increases such risk levels for these firms? Answers to this question have important implications for the management of companies and the investment decisions of individuals and institutions. The purpose of this paper is to examine the relationship between corporate environmental performance and firm risk in the British context. Using the largest dataset so far assembled, with Community and Environmental Responsibility (CER) rankings for all rated UK companies between 1994 and 2006, we show that a company’s environmental performance is inversely related to its systematic financial risk. However, an increase of 1.0 in the CER score is associated with only a 0.02 reduction in firm’s risk and cost of capital.

Extreme Returns from Extreme Value Stocks: Enhancing the Value Premium

Investigations into value-based ‘anomalies’ such as the P/E effect typically sort shares into quintiles, or at most deciles. These are blunt instruments. We test whether most of the extra value to be found in the lower end of the P/E spectrum is to be found in the very lowest P/E shares, and whether the worst investments are in the few shares with the highest P/E. Using a long-term definition of earnings, and attributing influences on the P/E to company size and sector, we find that small portfolios of value shares give returns of 40%+ per annum, while small portfolios of glamour shares give returns less than the riskfree rate. We thus show that by a more judicious use of the P/E ratio, we can considerably enhance the value premium. The price-earnings effect, in which shares with low price-to-earnings (P/E) ratios give better subsequent returns than high P/E shares, was first documented almost fifty years ago, by Nicholson [1960]. It has been reported in many markets around the world, and across various time periods. Dreman [1998] used it as one of his main demonstrations of the superiority of value shares for investment, for example. Academic studies dating back to Nicholson [1960] have typically found that a portfolio of glamour (high P/E) stocks underperforms the market by around 3%-4% a year, and a portfolio of value (low P/E) stocks outperforms it by 3%-4%. The difference between the returns to portfolios of value and glamour stocks has been termed the “value premium”. Similar results have been replicated over various time periods and in various stock markets around the world. There is an ongoing debate about the causes of this effect, which on the surface calls into question the weak-form efficiency of stock markets. Some hold it to be a reward for the extra riskiness of value shares. However, the CAPM beta does not increase as the P/E decreases; if anything, it decreases (Basu [1977]), so the risk must reside in other measures. According to Dreman and Lufkin [1997], sector-specific effects are also unable to explain the value premium, and more complex multifactor models have similarly failed to rationalise the outperformance of value stocks (see, for example, Fuller et al. [1993]). Others (e.g., Lakonishok, Schleifer and Vishny, [1994]) resort to behavioural explanations, ascribing the extra returns from value shares to psychological factors affecting market participants.

Recent Advances in Explaining Hedge Fund Returns: Implicit Factors and Exposures

We survey articles covering how hedge funds returns are explained, using linear and non-linear multifactor models that examine hedge funds as option portfolios or indices. We provide an integrated view of the implicit factor and the statistical factor models that are largely able to explain hedge funds returns. We present their evolution through time by discussing pioneering studies that made a significant contribution to knowledge, and also recent innovative studies that examine hedge funds exposures using advanced econometric methods. This is the first review that analyzes very recent studies that explain a large part of hedge fund variation. We conclude by presenting some gaps for future research.

Extreme Returns From Extreme Value Stocks

Investigations into value-based ‘anomalies’ such as the P/E effect typically sort shares into quintiles, or at most deciles. These are blunt instruments. We test whether most of the extra value in the lower end of the P/E spectrum is to be found in the very lowest P/E shares, and whether the worst investments reside in the few shares with the highest P/E. Using a long-term definition of earnings, and attributing influences on the P/E to company size and sector, we find that small portfolios of value shares give returns of 40%+ per annum, while small portfolios of glamour shares give returns less than the risk-free rate. We thus show that by more judicious use of the P/E ratio, we can considerably enhance the value premium.

Hedge Fund Performance Attribution at Strategy Level Under Different Market Conditions

We investigate US hedge funds’ performance across different economic and market conditions for the longest period to date, 1990-2014. The paper examines the impact of multiple business cycles and rising/falling markets on exposures and excess returns delivered to investors. We use a twin nonlinear multi-factor agile model with pre-defined and undefined structural breaks, based on a regime switching process conditional on different states of the market. During difficult market conditions the majority of hedge fund strategies do not provide significant alphas to investors. At such times hedge funds reduce both the number of their exposures to different asset classes and their portfolio allocations. Some strategies even reverse their exposures. Directional strategies share more common exposures under all market conditions compared to non-directional strategies. Factors related to commodity asset classes are more common during these difficult conditions whereas factors related to equity asset classes are most common during good market conditions. Falling stock markets are harsher than recessions for hedge funds.

Hedge fund index-engineering methodologies: a comparison and demonstration

ABSTRACT We examine hedge fund (HF) index construction methodologies, by describing and analysing case studies from two well-known database vendors and evaluating them using numerical examples on the same dataset. Despite the fact that they follow a similar due diligence process, there are great differences in the index engineering practices arising from different quantitative techniques, even for indices in the same HF category. However, those quantitative techniques provide similar results. The differences are rather due to the use of different HF universes and different inclusion criteria. This article is the first to use actual numerical case studies to illustrate and compare how HF index engineering works. Having read it, the reader will have a good understanding of how HF indices are formed.