The Fundamental Index A Better Way to Invest

by Arnott, Robert D.; Hsu, Jason C.; West, John M.; Markowitz, Harry M.

• ISBN13: 9780470277843
• ISBN10: 047027784X
• Edition: 1st
• Format: Hardcover
• Copyright: 2008-04-25
• Publisher: WILEY

Summary

The Fundamental Index offers a breakthrough strategy for capturing the best market returns at the lowest cost and with the least risk. In this important new book, the highly respected Rob Arnott explains how passive, market capitalization weighted index investing falls short and fails to serve investors, investing too much in overpriced stocks and too little in underpriced shares. He shows how a new twist on indexing, fundamental indexing, eliminates this return drag and, in so doing, earns greater returns. In addition to discussing the powerful long-term performance of this strategy, this comprehensive guide also reveals how the new fundamental index outperforms most powerfully when excess returns are needed most, during market and economic downturns. In short, Arnott's innovative and straightforward strategy gives investors a new tool to achieve excess returns in a projected low-return environment while preserving the many positive attributes of index fund investing.

Author Biography

Robert D. Arnott is a leading industry thinker and researcher who served as the editor of the Financial Analysts Journal from 2002–2006 and who has authored over 100 articles for journals such as the Financial Analysts Journal, the Journal of Portfolio Management, and the Harvard Business Review. Arnott serves as Chairman of Research Affiliates, LLC, a global leader in innovative investing and asset allocation strategies. Founded in 2002, Research Affiliates distributes investment products in partnerships with leading financial institutions including PIMCO, PowerShares, Charles Schwab, Nomura Asset Management, and FTSE, to name only a few.

Jason C. Hsu, PhD, is Managing Director, respon-sible for Research and Investment Management, at Research Affiliates, LLC. He is also a Professor in Finance at the Anderson School of Business at UCLA.

John M. West is Associate Director and Product Specialist at Research Affiliates, LLC. Previously, he was vice president and senior consultant at Wurts & Associates, where he managed the firm's overall research effort.

Table of Contents

Foreword

Preface

Efficient Indexing for an Inefficient Market

Evidence of Market Efficiency

The Case for Indexing

Evidence of Market Inefficiency

Conclusion

Origins of the Fundamental Index Concept

The Origins of Research Affiliates Fundamental Index (RAFI)

A Series of Aha! Moments

Research Affiliates Fundamental

Index

Fundamental Index Performance

Concluding Thoughts: A Better Way to Invest

Investors Greatest Errors

Negative Alpha

Practicing What We Preach

Conclusion

The Virtues of Index Funds

The Appeal of Equity Investing

Equity Investing Choices

The One Guarantee in Investments-Costs Matter

Index Fund Advantages

Avoiding the Performance Game

Concluding Point

The Index FundG+&s Achilles Heel

Market Efficiency: Two Interpretations

Constructing a Well-Functioning

Index

The Achilles Heel of Cap-Weighting

The Problems with Equal Weighting

Concluding Thoughts

A Fundamental(ly) Better

Index

Building the Fundamental

Index

Adjustments for non-dividend-paying companies

Why Multiple Measures of Company Size?

Advantages of a Composite Measure

An Index of the Broad Economy

Capacity and Liquidity

Reconstituting the Fundamental Index: Keeping Turnover Low

Concluding Comments

Fundamental Index Performance in U.S. Stocks

RAFI US Large Company Performance

Digging Deeper across Market Cycles

Digging Deeper into Different Time Periods

An Equal Comparison: Fundamental Index vs. Equal Weighting

Out-of-Sample Results: Small Companies

Using the Fundamental Index with Style: Growth and Value Applications

Narrowing the Focus: NASDAQ

Narrowing the Focus: REITs

Narrowing the Focus: Sector Performance

Extending the Analysis Back in Time

Conclusion

Beyond Borders: Fundamental Index Performance in Global Markets

Fundamental Index Performance in Global Markets

Multicountry Portfolios

Emerging Markets

Consistency Counts

Concluding Comments: Lessons Learned From the Global Markets

Has Theory Led the Profession Astray?

Will the Real Active Strategy Please Step Forward?

The Origins of Cap Weighting

Apparent Validation of Cap Weighting by Theory

Forty Years Later: Empirical Results of the CAPM

OckhamG+&s Razor Applied

Concluding Comments: Theory and the Profession

The Basic Criticism: Our Style and Size Tilt

Merely a Value Tilt

Small-Cap Bias

Fama and French Factors

Some Big Surprises in Small Companies

Conclusion

Other Common Critiques: Hits and Misses

Mining the Data?

Costs

Is It an Index?

Do We Know Which Stocks Are Overvalued?

How Long Can It Last?

Conclusion

Why Trust the Fundamental Index Concept?

Stock Logic

The Present vs. the Future: How Often Is Wall Street Right?

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Problems

Effect of Stress

Cold Working

Stress-Corrosion Cracking of Iron and Steel

Mechanism of Stress-Corrosion Cracking of Steel

Effects through Coupling of Different Steels

Effect of Heat Treatment

Steel Reinforcements in Concrete

References

General References

Problems

Effect of Stress

Cold Working

Stress-Corrosion Cracking of Iron and Steel

Mechanism of Stress-Corrosion Cracking of Steel

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