Stock Market Anomalies Aren't Caused by Value Investors—They're Caused by Trend-Chasers
Value investors should dampen volatility, but static rebalancers and return-chasing extrapolators together generate excess volatility, momentum, and nearly every widely-discussed market anomaly.
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Three investor types drive market anomalies, not perfect rationality
Traditional asset pricing assumes only rational value investors exist, which should lower volatility—when prices fall and expected returns rise, value investors buy more. But real markets have two other types: static allocators who maintain fixed weights (like 60/40) through regular rebalancing, and extrapolators who chase recent returns, buying more when markets rise. Together, these two types overwhelm value investors and create the momentum and excess volatility seen repeatedly in markets.
— Victor HaghaniCompany buybacks push prices up more than the buyback size
Suppose a market contains only 50-50 allocators. If a company buys back 10% of all outstanding shares from these allocators, their holdings shift to 45% stocks and 55% cash. Since they want to maintain 50-50 balance, they can only restore the ratio if stock prices rise enough to make the 45% stake worth 55%—a 20% appreciation, not the 10% of the buyback itself. This illustrates inelastic demand: small supply-side changes translate into large price swings when demand can't easily adjust.
— Victor HaghaniEconomists systematically assume stock market demand is perfectly elastic
Gabaix and Koijen surveyed 50–100 economists, asking how much a price would change if one investor needed to buy 0.1% of market cap. Most answered zero, assuming perfect market elasticity. Haghani's team estimates price impact is substantial—though they find less impact than Gabaix-Koijen—nowhere near the zero that economists assume. This reveals a systematic blind spot in mainstream finance: how micro-structure (real buying and selling) actually moves prices.
— Victor HaghaniReturn-chasing and momentum look similar but operate very differently
Momentum has a clear definition: whether you look back one year or six months, the pattern holds, and it's binary—either overweight or underweight, reversing all positions instantly when the signal flips. Return-chasing (chasing recent performance) has no agreed definition. Cliff Asness once proposed it's momentum with a five-year lookback window. Haghani disagrees: true return-chasing is gradual, not binary—as markets rise and past returns improve, you add positions step-by-step; as they fall, you trim. This gradual behavior, not binary switches, explains why return-chasers underperform long-term while momentum strategies do well.
— Victor HaghaniUS buybacks and 401k flows explain a decade of stock market strength
Many long-term observers puzzle over how US stocks rose 20% amid high interest rates, fiscal deficits, tariffs, and global instability. A simpler explanation: US companies repurchased over $1 trillion annually, there's been almost no new IPO supply, and 401k contributions inflow at roughly $1 trillion annually—creating significant exogenous demand that absorbs supply. Japan's bubble peaked in the late 1980s when equity cost fell below debt cost, sparking equity issuance. The US is still some distance away, needing roughly another 50% stock appreciation or a rate rise of another 1–2 percentage points to hit that threshold.
— Victor HaghaniLeveraged long-short indexing only works with real alpha available
Compared to standard direct indexing tax strategies (buying individual stocks to mimic the index and harvesting tax losses on downturns), leveraged long-short direct indexing uses leverage on both long and short sides to harvest more tax losses. But the costs are higher—you pay leverage fees and short-side financing friction. The research conclusion: if you don't believe a long-short portfolio will generate real excess returns, it probably isn't worth doing. The complexity is high, you're locked into a few-hundred-stock portfolio, and you can rarely find anyone publicly claiming stable alpha from these strategies. Most open-end versions close soon.
— Victor HaghaniKnowing tomorrow's news doesn't help: position sizing destroys most traders
Inspired by Taleb's remark that you'd go broke even with tomorrow's Wall Street Journal headlines, the team designed an experiment: let people trade stocks and bonds using real historical headlines from one day before. Over 100,000 have tried it. Most do poorly for three reasons: catastrophic position sizing (some took 40x leverage, blown out 80% when markets dropped 2%); preference for trading stocks with ambiguous signals over bonds with clearer ones; and difficulty interpreting headlines correctly. A pro macro trader performed well, posting a ~60% win rate and doubling capital over 15 rounds. A free AI model tested half a year ago initially over-leveraged too; after switching to paid tier and being reminded of "Missing Billionaires", directional judgment improved but position sizing remained overly conservative.
— Victor HaghaniYoung people should use leverage in theory, practice makes it costly
Merton share theory supports young people using leverage: they have large human capital and small financial capital, so optimal total equity exposure (including human capital) would require financial leverage. But in reality, retail investors can't access low-cost leverage. Brokers like Fidelity and Schwab charge around 9% for margin loans—eating most of the risk premium. Moreover, human capital isn't necessarily bond-like for those considering leverage. Many are tech workers or finance professionals whose human capital itself has high beta; recent AI disruption to software roles shows human capital has tail risk too. It's not just financial assets that carry risk.
— Victor HaghaniIn their own words · checked verbatim
If companies are buying back 1% of their stock, stock prices are going to have to go up 2% if the only investors are these static weight strategic investors.
Victor Haghani9:23
And the vast majority of financial economists said zero, that the marketplace is like perfectly elastic.
Victor Haghani10:24
He says return chasing is momentum investing, but with a five year look back.
Victor Haghani17:00
if you don't believe that the long shorts are going to generate alpha, we don't really think it's worth doing.
Victor Haghani36:30
He said, give a man the front page of the Wall Street Journal a day ahead of time every day of the year. And within a year, he'll be broke.
Victor Haghani43:50
I think as an investor, you just don't need to be following the news very much at all.
Victor Haghani48:10
The risk-adjusted return is always lower. It can never go the other way because risk is always a cost.
Victor Haghani58:14
Oh, I'm embarrassed to say this, but I would say, read a book like this. Do something proactive to make a plan and to really think about your finances.
Victor Haghani1:00:20
Figures
| Company buyback (50-50 allocation scenario) | 10% buyback drives 20% stock price increase | 8:22 |
| Exogenous demand impact (Haghani estimate) | 1% demand change causes ~1% market movement | 10:24 |
| Professional macro trader (experiment) | ~60% win rate; portfolio doubled over 15 rounds | 45:48 |
| Margin lending rate (Fidelity, Schwab) | ~9% | 49:55 |
| Leveraged ETF spread vs risk-free rate | ~50 basis points | 56:58 |
Glossary
- Merton share
- Optimal stock allocation based on expected risk premium, risk aversion coefficient, and variance.
- Extrapolator
- Investor who adjusts positions based on recent market returns rather than fundamentals.
- Inelastic demand
- Market demand that responds sharply to price, so small purchases or sales cause large price swings.
- Time series momentum
- Trading strategy that goes long or short based on an asset's own historical price trend, not relative to peers.
- Long-short direct indexing
- Tax strategy using leverage to simultaneously buy and short individual stocks, amplifying tax-loss harvesting effects.
- Kelly criterion
- Formula for optimal bet sizing based on win rate and payoff odds; the special case of Merton share when risk aversion equals one.
How to listen
Individual investors and investment advisors interested in understanding why market anomalies occur, allocating between value and momentum strategies, and whether leverage makes sense for themselves or younger clients.
If you're not interested in the details of leveraged long-short direct indexing tax strategies in US equities, you can skip the 32:34–39:37 section.