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Does Fundamental Indexation Lead to Better Risk Adjusted Returns? New Evidence from Australian Securities Exchange

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  • Brigette Forbes

    (Realindex Investments)

  • Anup Basu

    ()
    (QUT)

Abstract

Fundamental indexing based on accounting valuation has drawn significant interest from academics and practitioners in recent times as an alternative to capitalization weighted indexing based on market valuation. This paper investigates the claims of superiority of fundamental indexation strategy by using data for Australian Securities Exchange (ASX) listed stocks between 1985 and 2010. Not only do our results strongly support the outperformance claims observed in other geographical markets, we find that the excess returns from fundamental indexation in Australian market are actually much higher. The fundamental indexation strategy does underperform during strong bull markets although this effect diminishes with longer time horizons. On a rolling five years basis, the fundamental index always outperforms the capitalization-weighted index. Contrary to many previous studies, our results show that superior performance of fundamental indexation could not be attributed to value, size, or momentum effects. Overall, the findings indicate that fundamental indexation could offer potential outperformance of traditional indexation based on market capitalization even after adjusting for the former’s slightly higher turnover and transaction costs.

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File URL: http://external-apps.qut.edu.au/business/documents/discussionPapers/2011/WP275.pdf
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Bibliographic Info

Paper provided by School of Economics and Finance, Queensland University of Technology in its series School of Economics and Finance Discussion Papers and Working Papers Series with number 275.

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Length: 37 pages
Date of creation: 21 Nov 2011
Date of revision:
Handle: RePEc:qut:dpaper:275

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Web page: http://www.bus.qut.edu.au/faculty/economics/
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  1. Fama, Eugene F & French, Kenneth R, 1992. " The Cross-Section of Expected Stock Returns," Journal of Finance, American Finance Association, vol. 47(2), pages 427-65, June.
  2. Fama, Eugene F. & French, Kenneth R., 1993. "Common risk factors in the returns on stocks and bonds," Journal of Financial Economics, Elsevier, vol. 33(1), pages 3-56, February.
  3. Jacob Boudoukh & Roni Michaely & Matthew Richardson & Michael Roberts, 2004. "On the Importance of Measuring Payout Yield: Implications for Empirical Asset Pricing," NBER Working Papers 10651, National Bureau of Economic Research, Inc.
  4. Derek Jun & Burton G. Malkiel, 2008. "New Paradigms in Stock Market Indexing," European Financial Management, European Financial Management Association, vol. 14(1), pages 118-126.
  5. Holthausen, Robert W. & Larcker, David F., 1992. "The prediction of stock returns using financial statement information," Journal of Accounting and Economics, Elsevier, vol. 15(2-3), pages 373-411, August.
  6. Friend, Irwin, 1977. "Recent developments in finance," Journal of Banking & Finance, Elsevier, vol. 1(2), pages 103-117, October.
  7. Chen, Chen & Chen, Rong & Bassett, Gilbert W., 2007. "Fundamental indexation via smoothed cap weights," Journal of Banking & Finance, Elsevier, vol. 31(11), pages 3486-3502, November.
  8. Joanne Mar & Ron Bird & Lorenzo Casavecchia & Danny Yeung, 2009. "Fundamental Indexation: An Australian Investigation," Australian Journal of Management, Australian School of Business, vol. 34(1), pages 1-20, June.
  9. Malkiel, Burton G, 1995. " Returns from Investing in Equity Mutual Funds 1971 to 1991," Journal of Finance, American Finance Association, vol. 50(2), pages 549-72, June.
  10. Olaf Stotz & Gabrielle Wanzenried & Karsten Döhnert, 2010. "Do fundamental indexes produce higher risk-adjusted returns than market cap indexes? Evidence for European stock markets," Financial Markets and Portfolio Management, Springer, vol. 24(3), pages 219-243, September.
  11. No�l Amenc & Felix Goltz & Véronique Le Sourd, 2009. "The Performance of Characteristics-based Indices-super-1," European Financial Management, European Financial Management Association, vol. 15(2), pages 241-278.
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