It may seem counterintuitive, but over time, stocks that are less popular seem to outperform their more popular counterparts—and they do so with less risk and generally less volatility, according to investment experts Roger Ibbotson of the Yale School of Management and Tom Idzorek of Morningstar Investment Management.
The two finance experts, writing in the 40th-anniversary issue of “The Journal of Portfolio Management” in September, stress that this analysis is meant to look at the concept of popularity within an asset class, like stocks, not between asset classes.
The dynamic seems to go as follows: Investors like a stock, and its price goes higher; investors don’t like a stock, the price goes lower.
“Thus, the asset with the more desirable characteristics should have lower expected relative returns, whereas the asset with less desirable characteristics should have higher expected relative returns,” Ibbotson and Idzorek said in their report.
They added the following perspective: “Although risk is clearly unpopular, it is only one dimension of popularity. Popularity can include all sorts of other characteristics that do not fit well into the risk and return paradigm.”
The notion of popularity and stocks may not initially appear scientific, but Ibbotson and Idzorek did their homework, of course.
They sliced and diced data associated with the largest 3,000 publicly traded companies from 1972 to 2013. As part of the analysis, the experts ranked the companies in relationship to how much turnover (or popularity) they had in prior year.
The less popular stocks, they found, have both lower turnover and less risk (or beta).
In terms of average annual returns, the less-popular stocks improved between 14.42% and 15.51% vs. returns of 8.27% and 12.80% for their “hot” counterparts.
The less popular stocks also had less volatility, as measured by their standard deviations, which were 20.18–20.66 vs. 22.74–28.25 for the more popular shares.
“Many of the well-known market premiums are associated with unpopular stocks. Unpopular stocks tend to be smaller, less liquid, and perceived as lacking growth potential,” explained Ibbotson.
“These stocks, with their low relative prices, may offer investors better future performance as they move along the spectrum toward popularity,” he stressed.