CandleFocus

High Minus Low (HML)

Candlefocus Editor
High Minus Low (HML) - also called the value premium - is used to measure the tendency of value stocks to outperform growth stocks, according to the Fama-French three-factor model. Value stocks typically have higher book-to-market ratios and thus have a higher profitability. In the Fama-French three-factor model, the HML factor is used to measure the return difference between value and growth stocks. HML is calculated by subtracting the returns of stocks with low book-to-market ratios from the returns of stocks with high book-to-market ratios. The portfolio managers that manage to generate significant positive HML are rewarded by the market with high returns.

HML also is used to measure the quality of securities selection, portfolio composition, and trading skills of a portfolio manager. If the portfolio manager can accurately identify undervalued securities, the HML will be positive. On the other hand, if the portfolio manager fails to accurately identify overvalued securities, the HML will be negative. Therefore, the HML factor reflects the ability of the portfolio manager to identify and select stocks that are expected to outperform the market.

In addition, HML helps to explain the performance of various financial instruments. By decomposing the returns into various components, including HML, portfolio managers can better understand and predict the performance of different investment strategies. For example, a value-oriented portfolio will likely have a positive HML and should outperform the average stock market performance.

In summary, High Minus Low (HML) is an important factor that helps to explain the overall performance of different investments. It is also used to measure the quality of securities selection, portfolio composition, and trading skills of a portfolio manager. With the help of HML, portfolio managers can more accurately identify undervalued securities, helping them to realize higher returns in the long run.

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