Value, Relative Strength, and Volatility in Global Equity Country Selection

Abstract

The urge to “play it safe” is strongest when investors are most nervous or uncertain, as in highly turbulent markets. Market equilibrium and mean–variance portfolio theory prescribe that a decrease in risk tolerance results in an increase in risk premium. During volatile periods, when it is more comfortable to hold winners, investors will be more comfortable holding markets with high relative strength. Accordingly, a premium should be paid to those who instead invest in markets that are out of favor. A strategy that switches country selection styles, favoring markets with high relative value during volatile periods and favoring markets with high relative strength otherwise, shows superior performance to a fixed tilt toward either style alone.