The Interesting Case of Dimensional Fund Advisors

Today's Wall Street Journal contains the October month-end mutual fund section. The lead story concerns a mutual fund group named Dimensional Fund Advisors.

Without restating the entire article, what interested me is how some elements of their style resembles that of my equity strategy. Their funds strategies are based upon Fama's and French's original "efficient markets" work. In fact, the two academics are involved with the company.

Dimensional could be described as having a passive management philosophy, but not using third-party indices, such as the Dow-Jones or the S&P500. Rather, befitting the academic work on which it is based, they identify smaller-capitalization companies which they tend to, apparently, hold for very long time periods. There's a quote by Fama about waiting some 25-30 years for the payoff in value stocks, which is what they characterize their portfolios as containing.

While the article does not fully disclose their approach, it does highlight their use of price/book measures to sort stocks as 'growth' or 'value,' which is a fairly conventional approach. They allegedly part company with the investment crowd on three dimensions. One, they ostensibly buy and hold for eons. Two, they end up with a passive, sort of custom-built 'index,' or fairly static portfolio. Three, they use quantitative methods, so that they can't really comment on why stocks are in their portfolio- they do none of the conventional 'kick the tires' sort of research that more qualitative shops employ.

There are some nice quotes in the piece, including one by John Bogle, the legendary founder of Vanguard. He opines that, while Dimensional's approach is very good, it's not perfect, because the market will arbitrage the excess returns to smaller-cap 'value' portfolios more quickly than French and Fama believe.

As I read the piece, I saw how, in some respects, Dimensional's approach shares some aspects of my own equity strategy's. Like Dimensional, I hold portfolio positions for longer than many other managers. And, I also employ a quantitative approach that eschews in-depth qualitative research, in favor of quantitative discipline, rigor and consistency. Like Dimensional, my holding time horizon is not for everyone. Also like Dimensional, however, the historic returns to my strategy have been much better than the S&P500.

I was, overall, very pleasantly surprised to see such a positive review of an investment approach that shares some salient characteristics with my own, in such a widely-read publication as the WSJ.