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Case 1 summary.docx

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Department
Finance
Course
FINA 411
Professor
All Professors
Semester
Fall

Description
Dimensional Fund Advisory was an investment firm composed of small stocks This firm believed in the efficient market theory They believed in diversification to reduce firm specific risk but they did not rely on indexing or passive investment They believed in the small stock effect small stocks provide greater returns than large stocks for the same amount of volatility Their strategy was to invest in small cap stocks based on deciles They started with the DFA 910 Strategy in ththwhich they invested in companies chosen from the 9 and 10 deciles of the NYSE the American Stock Exchange and the NASDAQ Later they added the DFA 610 Strategy and the DFA 678 StrategyThe implemented an active strategy by searching for attractive purchases They screened stocks They looked for impatient or desperate sellers They rejected stocks that were expected to divulge news soon They questioned themselves about the seller and the nature of the sells Once they ensured that sellers were not selling because they had adverse information or negative private information about the stock they then negotiated for a good price DFA had an additional competitive advantage by creating trading efficiencies to reduce transaction cost They charged an active management fee that was higher than passive management fees but smaller than what the average active manager charges It was part of their core beliefs to offer low transaction costs They traded in blocks to extract a discount on the stock purchase which in turn reduced transaction costs was able to extract a discount on the stock purchaseWhen stocks became too large they sold them They eventually added to their original product line until they had a full product line They turned new academic findings into productive investment strategies Their products were based on research results from academic sources In fact if research papers were used by DFA to build a new product they offered the researches a percentage of their revenues DFAs investment philosophy is particularly focused on research by Fama and French The two university professors had the goal to understand how beta explained returns They found that beta did not predict longrun average returns High beta stocks did not outperform low beta stocksSize and bookmarket ratio explained average longrun return Small and cheap stocks high bookmarket ratios have the higher average returns What Fama and French had discovered was an opportunity for DFA to add new products to their product line There is a relation between bookmarket and profitability Bookmarket and earnings are negatively correlatedThere are only 3 factors to consider when constructing a portfolio The stocks markets overall performance the sizeeffect and the booktomarket factor
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