What Works on Wall Street : A Guide to the

"The best investment book of 1996. Very likely, it will be the most influential book on investing in this decade."Stock Traders Almanac "...O'Shaughnessy's conclusion that some strategies do produce consistently strong results while others underperform could shake up the investment business."Barron's The New York Times and Business Week bestseller, What Works on Wall Street is now updated throughout to include the new data and 50 new sample portfolios. Hailed as "a great book" by Forbes, What Works on Wall Street is a must read for any investor looking to make savvy, historically informed decisions.

James P. O'Shaughnessy is Chairman and CEO of O'Shaughnessy Capital Management, Inc.

Preface

xv

Acknowledgments

xix

Stock Investment Strategies: Different Methods, Similar Goals

1

(10)

Traditional Active Management Doesn't Work

2

(3)

What's the Problem?

5

(1)

Studying the Wrong Things

5

(1)

Why Indexing Works

6

(2)

Pinpointing Performance

8

(1)

Discipline Is the Key

8

(1)

Consistency Wins

9

(1)

A Structure Portfolio in Action

9

(1)

Overwhelmed by Our Nature

9

(2)

The Unreliable Experts: Getting in the Way of Outstanding Performance

11

(10)

Human Judgment Is Limited

12

(1)

What's the Problem?

13

(1)

Why Models Beat Humans

13

(1)

Base Rates Are Boring

14

(1)

The Individual Versus the Group

15

(1)

Personal Experience Preferred

16

(1)

Simple Versus Complex

16

(1)

A Simple Solution

17

(4)

Rules of the Game

21

(14)

Short Periods Are Valueless

22

(1)

It's Different This Time

22

(1)

Anecdotal Evidence Is Not Enough

23

(1)

Potential Pitfalls

24

(2)

Rules of the Game

26

(9)

Ranking Stocks by Market Capitalization: Size Matters

35

(22)

How Much Better?

37

(4)

Reviewing Stocks by Size

41

(1)

Small Stocks Are the Winners, But Not by Much

42

(5)

Implications for Investors

47

(5)

Our Two Benchmarks

52

(5)

Price-to-Earnings Ratios: Separating the Winners and Losers

57

(22)

The Results

58

(1)

Large Stocks Are Different

58

(6)

High PE Ratios Are Dangerous

64

(4)

Large Stocks Fare No Better

68

(1)

Deciles

69

(1)

Implications

70

(9)

Price-to-Book Ratios: A Better Gauge of Value

79

(22)

The Results

80

(1)

Large Stocks Are Less Volatile

80

(2)

Base Rates More Consistent for Large Stocks

82

(1)

High Price-to-Book Stocks Do Poorly

82

(12)

Deciles

94

(5)

Implications

99

(2)

Price-to-Cashflow Ratios: Using Cash to Determine Value

101

(20)

The Results

102

(1)

Large Stocks Are Less Volatile

102

(6)

High Price-to-Cashflow Ratios Are Dangerous

108

(1)

Large Stocks Hit Too

108

(6)

Deciles

114

(2)

Implications

116

(5)

Price-to-Sales Ratios: The King of the Value Factors

121

(22)

The Results

122

(1)

Large Stocks with Low Price-to-Sales Ratios Do Well

122

(1)

High PSR Stocks Are Toxic

122

(11)

Large Stocks Do a Little Better

133

(1)

Deciles

133

(1)

Implications

134

(9)

Dividend Yields: Buying an Income

143

(14)

The Results

144

(1)

Large Stocks Entirely Different

144

(1)

Deciles

144

(5)

Implications

149

(8)

The Value of Value Factors

157

(14)

Risk Doesn't Always Equal Reward

161

(1)

Is It Worth the Risk?

161

(2)

Embrace Consistency

163

(1)

Large Stocks Are Different

164

(1)

Implications

164

(7)

One-Year Earnings-Per-Share Percentage Changes: Do High Earnings Gains Mean High Performance?

171

(20)

Examining Annual Earnings Changes

172

(3)

Large Stocks Do Worse

175

(1)

Buying Stocks with the Worst Earnings Changes

175

(1)

Large Stocks Do Better

175

(7)

Deciles

182

(8)

Implications

190

(1)

Five-Year Earnings-Per-Share Percentage Changes

191

(14)

The Results

191

(1)

Large Stocks Are Similar

192

(1)

Deciles

192

(11)

Implications

203

(2)

Profit Margins: Do Investors Profit form Corporate Profits?

205

(14)

The Results

205

(1)

Large Stocks Do Slightly Better

206

(1)

Deciles

206

(11)

Implications

217

(2)

Return on Equity

219

(14)

The Results

219

(1)

Large Stocks Do a Bit Worse

220

(1)

Deciles

220

(11)

Implications

231

(2)

Relative Price Strength: Winners Continue to Win

233

(20)

The Results

234

(1)

Large Stocks Do Better

235

(1)

Why Price Performance Works While Other Measures Do Not

235

(5)

Buying the Worst-Performing Stocks

240

(1)

Large Stocks Also Hit

240

(1)

Deciles

240

(12)

Implications

252

(1)

Using Multifactor Models to Improve Performance

253

(18)

Adding Value Factors

253

(1)

What About Other Value Factors?

254

(1)

Price-to-Sales Ratio Better Still

254

(1)

Additional Factors Add Less to Large Stocks

255

(6)

Price-to-Sales Ratio Does Well Too

261

(1)

What About Growth Factors?

261

(5)

Two Growth Models

266

(1)

Return on Equity Does Better Still

266

(3)

Large Stocks Less Dramatic

269

(1)

Implications

269

(2)

Two Multifactor Value Models for All Stocks

271

(8)

Using Several Value Factors

271

(1)

The Results

272

(1)

Value Factors Overlap

272

(3)

A Multifactor Model Using Price-to-Sales Ratios

275

(1)

Implications

275

(4)

Finding Value Among the Market's Leaders: A Cornestone Value Strategy

279

(16)

An Alternative to Indexing to the S&P 500

280

(1)

High PE Ratios Hinder Even Market Leaders

280

(5)

Low PE Ratios Help

285

(1)

High Yield Works Better Still

285

(1)

Better in Bull Markets, Too

286

(1)

Implications

286

(9)

Searching for a Cornerstone Growth Strategy

295

(14)

Traditional Growth Factors Fall Short

296

(1)

Higher Earnings More Valuable

296

(2)

Uniting the Two Models for a Cornerstone Growth Approach

298

(1)

Growth Strategies Are Less Effective with Large Stocks

298

(9)

Implications

307

(2)

Uniting Strategies for the Best Risk-Adjusted Performance

309

(12)

The Results

310

(3)

The United Strategy Also Outperforms Large Stocks

313

(1)

Implications

313

(8)

Ranking the Strategies

321

(18)

The Results

321

(1)

Absolute Returns

322

(5)

Risk

327

(1)

Risk-Adjusted Return

327

(10)

Implications

337

(2)

Getting the Most out of Your Equity Investments

339

(4)

Always Use Strategies

340

(1)

Use Only Strategies Proven over the Long Term

340

(1)

Invest Consistently

341

(1)

Always Bet with the Base Rate

341

(1)

Never Use the Riskiest Strategies

341

(1)

Always Use More Than One Strategy

341

(1)

Use Multifactor Models

342

(1)

Insist on Consistency

342

(1)

The Stock Market Is Not Random

342

(1)

Appendix: Research Methodology

343

(8)

Data

343

(1)

Time Horizon

343

(1)

Universe

343

(1)

Returns

344

(1)

Data Definitions

345

(2)

Formulas

347

(2)

Tases, Commissions, and Market Impact Costs

349

(2)

Bibliography

351

(6)

Index

357

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What Works on Wall Street : A Guide to the Best-Performing Investment Strategies of All Time

Summary

Author Biography

Table of Contents

Supplemental Materials