The regressions I ran showed a negative alpha (using Fama-French factors from the Ken French website) for the Vector fund.
I ran the regression using monthly returns over the period from February 2006 thru August 2012. Results may be different if more recent returns are included, but I used all data available at the time the post was written.
The monthly returns were calculated using data from Yahoo! Finance, which can be prone to errors, but the typical error I’ve found in the Yahoo! data is a missing dividend. I checked the data for each fund to see that none of the expected dividends were missing. If you have a monthly better data series for this particular range of dates, I’d be happy to rerun the regression.
How are the returns from 1928 calculated? Obviously there isn’t live fund data from that time. I assume DFA also reconstructed an estimate based on factor loadings. Did they assume the alpha term was zero? Or something else?
]]>1928-2013:
CRSP 1-10 Index = +9.6%
DFA US Vector Index = +12.0%
DFA US Small Value Index = +13.8%
A 50/50 split of TSM and SV would be +11.7%, 0.3% less than Vector.
With live data over last 5 years, we have 15.7% for VTSAX, 16.2% for DFVEX, and 16.7% for DFSVX, the 50/50 was identical to 100% US Vector.
PS – Vector is a cheaper way to get 50/50 exposure, not more expensive. DFA is selling about 25% of DFSVX portfolio every year to maintain asset class purity, a constraint not placed on Vector as stocks are allowed to migrate across the market cap and value/growth spectrum with very minimal buying/selling. Fund turnover is typically in the 5-10% range annually and the transactions occur in the mid cap and large cap segments were trading costs are cheaper. Not to mention a portfolio doesn’t have to pay the cost of rebalancing between TSM and SV.
Vector vs 50/50 returns will differ in the short run as Vector is well spread out across all stocks while the 50/50 is a “barbell” – concentrated in large cap/growth and small value exclusively.
]]>Good question, but I don’t have a good answer!
I probably should have looked at the Vector fund and SV fund over a common time period (I used max available data for both) to rule out any time period specific issues. For example, if there were particularly high re-balancing costs during the financial crisis, it would hurt Vector more because it is averaged out over a shorter time.
However, I think your explanation of greater portfolio concentration in historically negative alpha buckets (such as LV) is a more likely reason for the poor performance relative to the model, and I would add that DFA has a competitive advantage in SCV that it doesn’t have in other areas.
My understanding is that over time DFA has become something of a de facto market maker in SCV stocks. So, while others may face high trading costs, DFA often earns a premium by being a liquidity provider to large traders. I think this advantage is unique to the SCV space, so it may be expected that DFA will outperform competitors in SCV (i.e. DFSVX has a big advantage) but will perform in-line with competitors for more modestly tilted portfolios such as Vector.
For example, the SCV ETFs I looked at in this previous post have less tilt that DFSVX, and their negative alphas are similar to Vector.
http://www.calculatinginvestor.com/2011/01/16/fama-french-etfs/
Also, this article has a brief comment from Robert Deere on DFA’s market maker advantage in SCV: “We make it as painful for them as possible” link here. I don’t think DFA can drive such a hard bargain outside of the small cap space.
ADDED:
There is a very interesting paper by Donald Keim: “An Analysis of Mutual Fund Design” which discusses and attempts to measure the benefit of DFA’s “trading strategy” and “investment rules” on the performance of DFA’s SCV fund. This paper captures many of the reasons why DFA is able to outperform competitors in SCV.
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