In addition, they found that differences in standard arbitrage costs “seem to explain at best a fraction of the large differences … post-publication.” Jacobs and Muller added that they explored “several possible mechanisms behind the surprisingly large differences between the return dynamics in the U.S. and international markets” but were “unable to fully explain the results.”
They write: “Our findings are consistent with the idea that sophisticated investors learn about mispricing from academic studies, but then focus mainly on the U.S. market.” They end with the following: “Our results may thus be interpreted as a puzzle that calls for further theoretical and empirical investigation.”
The academic research has found that, at least in the United States, institutions do trade to exploit anomalies post-publication, with hedge funds and actively managed mutual funds being the most aggressive in this pursuit. The research also demonstrates we can reject the hypothesis that return predictability disappears entirely. But while premiums do not disappear, in the United States, they do experience a decay in magnitude of about one-third.
What is more, portfolios of costlier-to-arbitrage stocks decline less post-publication. This is consistent with the idea that costs limit arbitrage and protect mispricing. That said, outside of the United States, the evidence suggests that anomalies, and the size of their related premiums, have not been impacted as of yet. And that may present opportunities in terms of portfolio strategy.
Larry Swedroe is the director of research for The BAM Alliance, a community of more than 140 independent registered investment advisors throughout the country.