Factor/Style Investing

Fact, Fiction, and the Size Effect

Topics - Factor/Style Investing Equities

Read Time - 25 min

${ numberSection } ${ text }
Fact, Fiction, and the Size Effect

The size effect — the notion that small stocks have higher average returns than large stocks, even after risk-adjustment — has for decades been taken as an unwavering fact of financial markets. It was the first market anomaly to challenge asset pricing models and prompt debates about market efficiency. In practice, the path-breaking discovery of the size effect fueled a crowd of small cap indices and active funds and now the investment landscape is segmented into large and small stock universes. Despite its long and illustrious history in academia and its commonplace acceptance in practice, there is still confusion and debate about the size effect. We examine many claims about it and aim to clarify some of the misunderstandings surrounding it by performing simple tests using publicly available data.

The Journal of Portfolio Management

AQR Capital Management, LLC, (“AQR”) provide links to third-party websites only as a convenience, and the inclusion of such links does not imply any endorsement, approval, investigation, verification or monitoring by us of any content or information contained within or accessible from the linked sites. If you choose to visit the linked sites, you do so at your own risk, and you will be subject to such sites' terms of use and privacy policies, over which AQR.com has no control. In no event will AQR be responsible for any information or content within the linked sites or your use of the linked sites.

 

The information contained herein is only as current as of the date indicated, and may be superseded by subsequent market events or for other reasons. The views and opinions expressed herein are those of the author and do not necessarily reflect the views of AQR Capital Management, LLC, its affiliates or its employees. This information is not intended to, and does not relate specifically to any investment strategy or product that AQR offers. It is being provided merely to provide a framework to assist in the implementation of an investor’s own analysis and an investor’s own view on the topic discussed herein. Past performance is not a guarantee of future results.

 

Hypothetical performance results have many inherent limitations, some of which, but not all, are described herein. Hypothetical performance results are presented for illustrative purposes only.

 

Diversification does not eliminate the risk of experiencing investment loss.

 

Certain publications may have been written prior to the author being an employee of AQR.

This material is intended for informational purposes only and should not be construed as legal or tax advice, nor is it intended to replace the advice of a qualified attorney or tax advisor.