When it comes to the world of finance and investing, two names stand out prominently – Eugene Fama and Richard Thaler. These two are like the yin and yang of academic debate, representing conflicting philosophies in the market. Fama, the champion of Team Efficient Markets, believes in the idea that market prices reflect all available information and are therefore efficient. On the other hand, Thaler leads Team Behavioral Finance, which argues that market participants are influenced by behavioral biases that lead to exploitable inefficiencies in the market.
Despite their camaraderie on the golf course, the tension between Fama and Thaler is palpable. It’s a clash of academic ideologies that has been ongoing for years, akin to the rivalry between Lakers and Celtics in the NBA.
Fama, known for his belief in efficient markets, famously said, “I’m the most important person in behavioral finance, because most of the behavioral finance is just the criticism of efficient markets. So, without me what do they got?” In response, Thaler, representing the Behavioral Finance camp, retorted, “Gene has it all wrong. If it were not for Behavioral Finance, he and French would have had nothing to do for the past 25 years. He owes me everything.”
These quotes encapsulate the underlying tension between the two professors at the University of Chicago. While Fama’s camp argues for a passive investing approach, Thaler’s team advocates for active management based on behavioral insights.
Both Fama and Thaler have influenced major asset management firms like Dimensional Fund Advisors (DFA) and Fuller & Thaler Asset Management. DFA, founded by Fama’s research assistant David Booth, tilts portfolios towards small, cheap companies based on Fama’s academic research. FullerThaler, co-founded by Thaler, exploits behavioral biases to outperform the markets.
Despite the ongoing debate between efficient markets and behavioral finance, the evidence suggests that investors can exploit behavioral biases for superior risk-adjusted returns. While Fama’s camp may be hesitant to change their minds, it’s essential to check one’s own biases and remain open to the possibilities presented by behavioral finance.