Articles

The Winner's Curse
By Rob Arnott, Lillian Wu

Page 5 of 16

The title of "big loser" among the sectors has four contenders: telecom, with the demise of the Ma Bell monopoly; "other," which we just discussed; durables, with their existential crises in the early 1980s and during the recent financial crisis; and finance, with rolling crises toppling one top dog after another. For these sectors, the top dog lags the average competitor in its sector, over a subsequent 10-year holding period by an annual average of 6.6, 6.1, 6.1 and 5.3 percent, respectively!

The "big winner" among sectors? Energy. Exxon Mobil (and its predecessors, Exxon and Standard Oil of New Jersey), never lost its top dog status, scoring an average of 0.3 percent outperformance per annum relative to the other energy stocks, over the subsequent decade. How did Exxon Mobil stay on top, when other sectors witnessed a revolving door of top dog contenders? Perhaps it remained a winner because it has always stuck to its core competencies, avoided the combative business practices that got other top dogs in trouble, was content with solid mainstream growth and profit margins, has not risen to the bait when under attack, and kept as low a profile as any top dog possibly could. The firm’s persistence at the top was clearly also aided by the 1999 merger of Exxon and Mobil, which combined the Nos. 1 and 2 companies in that sector.

The national top dog in the United States, beginning with American Telephone and Telegraph Company (AT&T) in 1952 and ending with Exxon Mobil in 2011, shows remarkable rotation at the top, with seven national top dogs in 60 years.⁶ Given the heavy rotation at the top, it’s unsurprising that the shortfalls are bigger than for the sector top dogs. The average 10-year shortfall for the U.S. national top dog, measured against the other 999 stocks in the U.S. 1000 portfolio, is 5.4 percent, compounded annually. There were only seven times out of 51—14 percent of the time, in other words—in which the national top dog beat the subsequent 10-year performance of our portfolio of the remaining 999 U.S. stocks.

Other Countries Punish Their Top Dogs, Too
In this paper, we extend the top dog research to include the G-8 markets: Australia, Canada, France, Germany, Italy, Japan, the United Kingdom and (of course) the United States.⁷ With eight countries and 12 sectors, we now have 96 sector top dogs—the companies with the largest market capitalization, in each sector, for each country—every single year. It would be a painful overkill to scrutinize all of these, for each of the 30 years in our study. Accordingly, we create aggregates, first looking at the average spanning all 12 sectors for each country, then looking at the average across all eight countries for each sector. Viewed either way, the top dog performance shortfall in global markets is both larger and more reliable than it is in the United States.

As shown in Figure 2a, the 10-year average shortfall, spanning the 12 sector top dogs for each of eight countries over the 30-year sample period, ranges from just over 2 percent per year in Germany to an astonishing 11.5 percent in Canada. On a 10-year basis, sector top dogs underperform their equal-weighted sectors by a whopping 5.1 percent per year, on average, across 12 sectors and eight countries. The odds of sector top dogs outperforming their sector, over a subsequent 10-year span, are not promising—ranging from 45 percent in Germany to a horrific 19 percent in Canada. In all G-8 countries, over all four time spans—with no exceptions—the average sector top dog underperformed the competition in its sector, from 1982 to 2011. This is not to say that this performance shortfall occurs in every starting year, or in every sector for all countries. But on average over time, these results are rather overwhelming, with all eight t-statistics comfortably significant.