They become overly pessimistic over past losers, and
overly optimistic about past winners, right?
In other words, they overreact.
So, this example of heuristic driven biased over reaction,
therefore, causes prices to deviate from their fundamental values, right.
So, past losers become undervalued, because he messes overreact,
and past winners become overvalued, right?
But this mispricing isn't permanent, and eventually it corrects, leading
to losers outperforming the market, and winner underperforming the market.
So, this effect comes about because investors
cling to the idea that good stocks are the stocks
of good companies and vice versa, all right?
So, in investor's minds,
good companies are representative of successful companies, and therefore,
they're associated with stronger earnings, and higher returns going forward, right?
And on the other hand bad companies are representative of
unsuccess of companies, right?
With poor earnings and low returns going forward, right?
So, here's an example recounted by Professor
at Santa Clara University, right?
So, let's go back in time to June 1997, and
examine two companies, Dell and Unisys.
So, Dell at the time, right, had a strategy that is really simple, right?
Sell custom made computers directly to consumers.
And at the time in June 1997, right?
They were doing really well, their sales had gone up by 47% over the previous year.
Their earnings per share had doubled.
The stock price had increased by more than 150% over the past three years.
Now in investors' minds, right?
There is no question that Dell was representative of
a successful company, okay?
Well, what about Unisys?
Well, if you don't know or remember, Unisys is the product of a takeover in
the 1980s by Burroughs of Sperry Univac.
Right, now, before the merger, both companies were struggling.