In the next section, we discuss our findings from our regime change analysis that suggest a regime change in the incongruence of value and glamour stocks right around the GFC. We provide some evidence in favor of this hypothesis in our accompanying white paper by outlining a methodology to estimate the daily levels of incongruence, studying the changes in these daily levels to look for any regime shift in the average level of incongruence, and, documenting the performance pickup in the book-to-price based value strategy when it’s limited to investing in stocks that exhibit high incongruence.
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Put simply, firms with very high book-to-price ratios (i.e., value stocks) that also have high profitability and operating efficiency are more likely to be successful contributors to a book-to-price value strategy the same is true for firms with very low book-to-price ratios (i.e., glamour stocks) that also have low profitability and operating efficiency. If the traditional book value does not adequately account for all the assets that contribute to a firm’s profitability and operating efficiency, then any positive profits from a book-to-price based value strategy should be concentrated among the subset of firms where book-to-price valuations 8 are most incongruent with measures of profitability and operating efficiency. 3 Figure 1: Cumulative daily returns of the value effect. The value effect, traditionally defined as the spread between the returns of stocks with high and low book-to-price ratios, has experienced poor performance post-GFC as shown in Figure 1. This recent disparity between book-to-price and these other metrics does explain to some degree the observed underperformance of the strategy since the crisis. 2 The average profitability and operating efficiency of the US stocks identified as “overvalued” by the canonical book-to-price based value strategy has increased since the GFC, and vice versa for “undervalued” stocks. 1 In this article, we highlight an interesting finding from a new Thematic Research white paper-that the profitability and operating efficiency of stocks traded by this strategy underwent a regime change around the GFC. since the global financial crisis of 2008 (the “GFC”), leading many market commentators to question whether value investing is still alive. The canonical book-to-price based value strategy has been in a drawdown in the U.S.