If you are an adherent of the value-investing school, you should be focusing on value stocks with the lowest levels of institutional ownership. So says a study by Ludovic Phalippouin the March/April 2008 issue of the Financial Analysts Journal.
This bottom stratum is what drives the well-documented “value premium,” i.e. the tendency of value stocks (defined as low price to book value) to outperform. For this group, the premium is nearly 2% a month, declares Phalippou. Other value stocks have a premium near zero.
The explanation may be that stocks owned mostly by individuals tend to be mispriced. Individuals apparently are not “ sophisticated” enough, and institutional players can’t jump in due to transaction costs (notably, low number of tradable shares).
In short, the market is not overly efficient on the fringes where transaction costs obstruct the institutionals. One is more likely to find authentic bargains around the edges because there isn’t a plethora of pros continuously sifting through the data.