Of all the ways of harvesting your own seafood, nothing takes more patience than crabbing. You bait your crab pot, toss it into the bay, and wait.
At least with a fishing pole you can feel if the fish are nibbling. But with crabbing there's no such feedback. You have to sit patiently and wait for the slow moving crabs to sidle into your trap—something which is (possibly) occurring completely out of view. If you let your curiosity get the best of you and pull up the pot, you make it impossible for the crabs to get in.
No wonder fresh crab meat can go for more than $30/lb. You could say that seafood lovers are paying a patience premium.
A similar principle is at work in the stock market, where patient investors who are willing to stick with a plan long after their peers have "pulled up their crab pots and gone home," are more likely to be rewarded with better long-term performance.
Taking Advantage of Risk Premiums (“Premia”)
You've probably heard repeatedly that in the market risk and return are two sides of the same coin. You simply can't expect gain without some risk of decline or loss. Or, to paraphrase Nobel Prize in Economic Sciences Laureate and economist Eugene Fama, there's no free lunch.1
"Risk premia" is the academic term for the potential return premiums global free stock markets tends to deliver in exchange for maintaining specific risk exposures over meaningful time periods. Equity market exposure is the best-known risk premium, historically rewarding investors for maintaining long-term exposures to freely-trading stocks around the globe. Other prominent risk premia include the Size factor, where small-cap stocks tend to outperform large-cap stocks, and the Value factor, where book- to-market valuation is used to distinguish relatively cheap stocks (Value) that tend to outperform expensive stocks (Growth).2
In seeking higher expected return premiums, investing for exposures in specific risk dimensions requires careful portfolio construction, discipline and patience. These could be viewed as some of the “costs” or trade-offs for Dr. Fama’s “not-free” lunch.
Writing about this for The Globe & Mail newspaper, John Reese, CEO of Validea Capital, says that factor investing's systematic strategy has the benefit of removing human emotion from the investment process, which is often the biggest obstacle to performance.3
"It makes an investor stick with a strategy through ups and downs, recognizing that ultimately things will revert to the middle. Consistency ends up being more valuable than luck or skill in the long run."
Pursuing risk premia is essentially a long-term, contrarian approach. Diversified portfolios seeking exposures to these risk dimensions are purposely designed to own some things that, at times, don’t appear to be popular or out performing. Implementing this type of strategy requires more than proper fund construction; patience is the responsibility that falls to the fund holder.4
Back to our crabbing analogy. When you toss your crab pot in, you have no way of knowing if that area of ocean floor at that exact time has thousands of crabs or just a few dozen. But you do know that in either case your best strategy is to not pull it up right away. Much like investing, the impatient crabber is likely to be frustrated. Patience does not guarantee reward (nothing can) but it’s the most probable path to your end goal.
To help you understand how your investment portfolio is taking advantage of all the factors that are appropriate for your risk profile and investment time horizon, be sure to talk with your trusted financial advisor.
The views expressed herein are exclusively those of Efficient Advisors, LLC (‘EA’), and are not meant as investment advice and are subject to change. All charts and graphs are presented for informational and analytical purposes only. No chart or graph is intended to be used as a guide to investing. EA portfolios may contain specific securities that have been mentioned herein. EA makes no claim as to the suitability of these securities. Past performance is not a guarantee of future performance. Information contained herein is derived from sources we believe to be reliable, however, we do not represent that this information is complete or accurate and it should not be relied upon as such. All opinions expressed herein are subject to change without notice. This information is prepared for general information only. It does not have regard to the specific investment objectives, financial situation and the particular needs of any specific person who may receive this report. You should seek financial advice regarding the appropriateness of investing in any security or investment strategy discussed or recommended in this report and should understand that statements regarding future prospects may not be realized. You should note that security values may fluctuate and that each security’s price or value may rise or fall. Accordingly, investors may receive back less than originally invested. Investing in any security involves certain systematic risks including, but not limited to, market risk, interest-rate risk, inflation risk, and event risk. These risks are in addition to any unsystematic risks associated with particular investment styles or strategies.