Journal of Investment Strategies

Ali Hirsa
Professor, Columbia University & Managing Partner, Sauma Capital LLC

Welcome to the third issue of the eleventh volume of The Journal of Investment Strategies, which contains three research papers.

The number of Islamic mutual funds has grown considerably in the last few decades, accounting for about 15–20% of the mutual fund market in the last 15 years. The existing literature focuses only on the structures and contacts of Islamic mutual funds, with their pricing largely being overlooked. In this issue’s first paper, “Islamic mutual funds: contracts, structures, screening and pricing mechanisms”, Abubakar Suleiman, Burhan Uluyol and Metin Toprak thoroughly examine various Islamic mutual fund instruments, review the existing structures and contracts, demonstrate Islamic mutual fund mechanisms, and deliberate on the critical issues associated with the different types of Islamic mutual fund. Their study examines the contracts, structures, screening, pricing mechanisms and reasoning behind the mechanisms applied in both the screening and purification of funds and shares. They provide useful information about Sharia-compliant funds and different variations of them (eg, Mudarabah and Wakalah), and they evaluate the origin of each procedure. Suleiman et al’s research aims to fill gaps in the literature, and to harmonize and standardize the various benchmarks for the screening and pricing of Islamic mutual funds. The reader should find the part about purification both interesting and useful.

Our second paper, “Enhanced expected impact cost model under abnormally high volatility” by Gabriel Tucci, Sameer Jain, Aiying Zhang and Wenting Ge, focuses on recent market turbulence and an anomalously high impact cost for stock market transactions. After conducting empirical analysis on actual execution data from 2020, Tucci et al find that during such market regimes there appears to be a stronger crowding effect in the stock market, which means market participants have a propensity to trade the same stock on the same side at the same time more than usual, leading to larger transaction costs in general. Therefore, to address this problem, they extend their impact cost model beyond typical factors such as order size, price volatility, trade volume and bid–offer spread, as these factors alone are insufficient to fully capture the underlying pattern in this market regime as they do during normal times. They propose adding a size adjustment to the actual transaction size to account for this crowding effect, and they achieve a more accurate estimate of expected impact costs during periods of elevated volatility. Their adjustment is constructed using the Chicago Board Options Exchange volatility index, which is a well-known measure of expected volatility and “fear”. With their enhanced model, the authors are able to provide a more robust estimation for transaction costs that significantly outperforms the original impact cost model in the face of market turmoil.

In “Is volatility a friend or enemy of your stock and fund investments?”, the third and final paper in the issue, Longchong Chen, Jun Gao and Sheng Zhu propose volatility factors constructed based on four different risk measures: realized volatility, normal and historical value-at-risk, and idiosyncratic risk. They investigate the role of past volatility in the cross-section of returns on US stocks, equity mutual funds and corporate bond funds, and they analyze the power of those risk measures to predict the future performance of three investments. Additionally, they specifically examine the different roles of short- and long-term volatility in mutual fund (ie, equity and corporate bond) returns. Their findings indicate that, for equityrelated investments, portfolios with lower short-term volatility generally yield higher abnormal returns after controlling for market, size, value, profitability and investment pattern risk factors. However, over the long term, the best-performing equity funds usually have volatility that is higher than the market level. Chen et al also discover that neither low-volatility nor high-volatility corporate bond funds exhibit significant risk-adjusted returns in the short term, while bond mutual funds with higher volatility over the long term usually yield higher alphas on average. They conduct several numerical experiments and provide evidence of the significance of the factors for equity and bond mutual funds.

On behalf of the editorial board, we hope you have been doing well throughout the Covid-19 pandemic. We would like to thank you, our readers, for your continued support for and keen interest in our journal. We look forward to sharing with you the growing list of practical papers on a wide variety of topics on modern investment strategies that we continue to receive from both academics and practitioners.