The Value Line Contest: A Test of Predictability of Stock-Price Changes

Author(s): John P. Shelton

Source: The Journal of Business, Vol. 40, No. 3 (Jul., 1967), pp. 251-269
Published by: The University of Chicago Press
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 THE VALUE LINE CONTEST: A TEST OF THE PREDICTABILITY
OF STOCK-PRICE CHANGES*
JOHN P. SHELTONt
WV THETHERor not an individual,or
a group of investors, can outper-
form the stock market is a ques-
tion of considerableinterest to profession-
al investors and students of the security
markets. On the surface, the question
would seem to be fairly easy to answer,
except in the case of private individuals,
where it is nearly impossibleto get accu-
rate and complete records.But even pen-
sion and mutual funds, whose recordsare
available for careful measurement,have
found the problemnearly insuperable,as
is indicated in a number of recent arti-
cles.'
In this context, it becomes especially
interesting to examine the results of a
very large number of investment choices
made under the well-defined conditions
that governed the 1965-66 Value Line
contest. In succeeding sections, this
paper describes the contest, reviews the
recent discussions concerning the ran-
dom-walk hypothesis of stock-price be-
havior, and then presents and analyzes
the results attained by the contest's
18,565 entrants.
* This study could not have been undertaken
without financial support from the Ford Foundation,
made available through the Graduate School of
Business of the University of Chicago, and Arnold
Bernhard & Co., Inc., which not only provided a part
of the funds used during the study but gave, in a
generous and unquestioning manner, complete as-
sistance in providing any and all data requested.
James Warren, UCLA doctoral student, competent-
ly programed all the statistical analysis.
t Associate professor of finance, Graduate School
of Business Administration, University of California,
Los Angeles.
251
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I. THE CONTEST
In September, 1965, Value Line, an
investment advisory service, announced
a Contest in Stock Market Judgment.
Though the Value Line management
conceived the contest as a promotional
device, it provided-as a by-product-
an unusually good opportunity to test
the stock-selecting ability of a large
number of people. The contest required
that the entrants supply merely their
names and addresses; therefore little is
known about them, but the participants
are probably typical of individuals who
feel they know enough about the stock
market to make their own investment
decisions.
The contestant was requiredto select
a portfolio of 25 stocks from 350 that
I See, e.g., Ira Horowitz, "A Model for
Mutual
Fund Evaluation" (Mutual Funds as Investment
Alternatives), Industrial Management Review, Vol.
VI, No. 2 (Spring, 1965); Randolph W. McCandish,
Jr., "Some Methods for Measuring Performance of
a Pension Fund," Financial Analysts Journal, Vol.
XXI, No. 6 (November-December, 1965); William
S. Gray, "Measuring the Analyst's Performance,"
Financial Analysts Journal, Vol. XXII, No. 2
(March-April, 1966); Frank E. Block, "Risk and
Performance," Financial Analysts Journal, Vol.
XXII, No. 2 (March-April, 1966); Peter 0. Dietz,
"Pension Fund Investment Performance-What
Method To Use When," Financial Analysts Journal,
Vol. XXII, No. 1 (January-February, 1966); John
C. Sherman, "A Device To Measure Portfolio Per-
formance," Financial Analysts Journal, Vol. XXII,
No. 2 (January-February, 1966); John A. Sieff,
"Measuring Investment Performance: The Unit
Approach," Financial Analysts Journal, XXII, No.
4 (July-August, 1966), 93; Richard S. Bower and
J. Peter Williamson, "Measuring Pension Fund Per-
formance: Another Comment," Financial Analysts
Journal, XXII, No. 3 (May-June, 1966), 143.
252 THE JOURNAL OF BUSINESS
were ranked in categories IV and V by
Value Line as of November 26, 1965.
At that date, Value Line rated 1,072
stocks according to its expectation of
their probable market performance in
the next twelve months; it ranked 100
in Class I (highest), 259 in Class II
(above average), 363 in Class III (aver-
age), 250 in Class IV (below average),
and 100 in Class V (lowest). In order to
administer the contest efficiently, each
participantwas requiredto print a speci-
fied code number for each stock in addi-
tion to printing the name of each stock
he selected, and to return his challenge
list to Value Line in an envelope post-
markedno later than Sunday, December
5. The rules of the contest assumed that
an equal amount was invested in each
stock at the close of the market Friday,
December 3, 1965. The contestant's en-
tries were then keypunched with the
stocks' names and related codes; in de-
termining the accuracy of the entries,
the computer program used by Value
Line used the duplicationof information
(i.e., both stock name and code number)
to double check the selection that was
made.
When the contest ended, the closing
prices as of Friday, June 3, 1966, for
each of the 350 stocks, adjusted for stock
splits, stock dividends, and other capital
changes, were keypunched, and a com-
puter calculated the percentage change
in the price of each stock in every con-
testant's portfolio. The total change in
each portfolio was also determined by
averaging the percentage changes of all
25 stocks. Stating this in another way,
for each portfolio the average price
changewas calculated,the averagebeing
based on an equal amount of money in-
vested in each stock-not an equal num-
ber of shares of each stock being pur-
chased (which would have given greater
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weight to high-priced stocks)-and the
contestant was given a percentage score
determinedby dividing ending value by
beginning value. For example, if the
average price performanceof the stocks
in a portfolio were 90 per cent, it would
mean that if $25,000 had been invested
in the portfolio (placing $1,000 in each
stock), the endingvalue wouldbe $22,500,
or the arithmetic mean of the individual
price changes was -10 per cent.
The Value Line management also se-
lected a list of twenty-five stocks from a
universeof one hundredthey had ranked
in Class I as of November 26, 1965. The
Value Line company mailed its list of
twenty-six stocks to each contestant in
an envelope postmarkedprior to Decem-
ber 5, 1965.
The contestants were competing for a
first prize of $5,000 that would be award-
ed to anyone whose challenge list of
twenty-five stocks outperformed Value
Line's list of twenty-five stocks by a
greater margin than any other list sub-
mitted. A second prize of $2,500 was
awarded for the next best list; third
prize was $1,000, and fourth prize was
$500. In addition, one hundred more
prizes of $100 each were provided for
contestants whose portfolio's perform-
ance exceeded the performanceof Value
Line's stock list. As it developed, only
twenty contestants chose portfolios that
did better than Value Line's, so that not
all the prizes potentially available were
earned.
For our purposes, however, little in-
terest attaches to the contest winners
alone or to their portfolios, because if
there are "random" elements in stock-
price behavior, some fraction of port-
folios will perform very well, just as
some others will performvery badly. But
this may be only the result of chance
factors. The likelihood of such an occur-
 THE VALUE LINE CONTEST
rence can be evaluated only by taking
into account the performance of the
entire list of entries, not just the best or
the worst. This analysis does so.
Contest entrants were self-selected,
but from a universe that should have in-
cluded a high proportion of the well-
qualified investors and advisors. En-
trants could have learnedabout the con-
test from items that appearedin the Wall
StreetJournal and other financial publi-
cations; in addition, entry applications
were mailed directly to all Value Line
subscribers, all former Value Line sub-
scribers, and others who were on Value
Line's promotionalmailing lists.
A brief review of the problemsencoun-
tered in evaluating performance will
help to show how unique was the oppor-
tunity provided by the Value Line con-
test for measuring performance. The
problemsincludesuch questions as these:
Whatis thespan overwhichperformance
shouldbemeasured?-The commonlyem-
ployed calender year is arbitrary and
may have no relation to the planning
horizon the investor has in mind.
How should adjustmentbe made if a
pensionfund receivesa sizable augmenta-
tionjust beforea majorturnin themarket?
-Some funds receive quarterly or other
lumped payments at times over which
they have no control.
What yardstick should be used as a
criterion for evaluating performance?-
Among those available are the Dow-
Jones Industrial Average, the Utilities
Average, the Rail Average, the Standard
& Poor 500 Stock Index, the New York
Stock Exchange Index, the Amex Index,
any of the various over-the-counter
indexes, and the Securitiesand Exchange
CommissionIndex. $incetk fund may
own stocks that are traded on several ex-
changes and over the counter, there is
no clear, defined,and easy-to-obtainper-
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253
formance measure for the appropriate
universe.
Furthermore, it is difficult to obtain
an unbiased measure of the performance
of a fund, since the fund by its very act
of taking a position may influence the
performanceof the stocks it buys or sells
and thus affect the very criterion that
was used for measurement.For example,
in February, 1966, the newly created
Manhattan Fund had nearly $300 mil-
lion to invest. Before the year was ended,
its fall in value closely matched the
change in the Dow-Jones Industrial Av-
erage, but for several months after the
fund began it fell less than the industrial
average. It is possible that the purchas-
ing power of the fund played some part
in sustaining the prices of stocks on
which it had concentratedpurchases.
Another problem involves the issue of
risk aversion. The trade-off between
lower risk and reduced yield is well ac-
cepted in theory and is undoubtedly
consideredby the funds, but a difficulty
in evaluating performanceis the lack of
a precise statement of how much return
a fund is willing to forgo in order to
achieve how much stability; the task is
furthercomplicatedby the lack of agree-
ment on how to quantify risk.
In view of such problemsit is not sur-
prising that researcherswho seek to un-
derstand the behavior of security mar-
kets have reached few, if any, widely
accepted conclusions on how investors
have actually performed in relation to
the general market. Nonetheless, it is
useful to summarizethe previous studies
in order to provide an intellectual frame
of referencefor this study.
The early work of Alfred Cowles,using
forecastspublishedby a small numberof
professionals, led him to conclude that
there was no "evidence of ability to pre-
254 THE JOURNAL OF BUSINESS
dict successfullythe future course of the
stock market."2
H. K. Wu analyzed data for stock
transactions of corporate insiders and
concluded that "there is very little evi-
dence that a definite relationship exists
between insider transactions and subse-
quent price movements in relation to the
general market trend."3
S. S. Colker evaluated the success of
all brokeragehouses' corporateanalyses
cited in the Wall Street Journal from
June, 1960,to June, 1961,askingwhether
the stocks analyzed by the brokerage
houses performed any better than the
market as a whole. The author conclud-
ed, "the averagebusinessmanis probably
expecting too much in anticipating that
the stocks to which those in the business
of buying and selling securities have in-
vited public attention will appreciate to
a markedlygreater extent than the mar-
ket as a whole."4
Perhaps the most conclusive study of
actual performancewas done by Irwin
Friend and his Wharton colleagues in
A Study of Mutual Funds: Investment
Policy and InvestmentCompanyPerform-
ance, which concludes that "when ad-
justments are made for this composition
[of the portfolios proportions between
bonds,preferredand commonstocks, and
other assets] the averageperformanceby
2 Alfred Cowles, "Stock Market Forecasting,"
Econometrica, Vol. XII, Nos. 3-4 (July-October,
1944); reprinted in E. B. Fredrickson (ed.), Fron-
tiers of Investment Analysis (Scranton, Pa.: Interna-
tional Textbook Co., 1965), p. 480. See also Alfred
Cowles, "Can Stock Market Forecasters Forecast?"
Econometrica, I (July, 1933), 309-24.
3H. K. Wu, "Corporate Insider Trading Profits
and the Ability to Forecast Stock Prices," in H. K.
Wu and A. J. Zakon (eds.), Elements of Investments
(New York: Holt, Rinehart & Winston, 1965), p.
448.
4 S. S. Colker, "An Analysis of Security Recom-
mendations by Brokerage Houses," Quarterly Re-
viewuof Economics and Business, III (Summer, 1963),
21.
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the funds did not differ appreciablyfrom
what would have been achieved by an
unmanagedportfolio with the same divi-
sion among asset types. About half the
funds performedbetter, half worse, than
such an unmanagedportfolio."6
These studies cast doubt on financial
experts' ability to obtain better-than-
average results. These doubts are rein-
forced by the experience of many aca-
demic researchers,who have looked for
patterns or systematic behavior in the
stock market, using sensitive tests for
serial correlation,runs and reversals,and
periodicity; all of these have failed to
disclose any statistically significantmar-
ket patterns.
Nonetheless, many people doubt that
U.S. stock-price changes can accurately
be characterized as random. Cowles'
study, for example, suffered from trying
to cope with vague and loosely worded
predictions. Insiders may be buying and
selling stock for reasons of control, per-
sonal financialrequirements,or based on
time spans longer than one or two years.
Colker'sstudy is based on analyses that
may or may not be "buy" recommenda-
tions.
Finally, priorstudies have been handi-
capped by inadequatenumbersof obser-
vations, which, in the presenceof random
variation and under the usual tests of
significance, have made it difficult to
substantiate any other conclusion than
that of random and unpredictableprice
changes.
In contrast to the problems that prior
studies had to face, many aspects of the
Value Line contest made it nearly ideal
- Irwin Friend, F. E. Brown, Edward S. Herman,
and Douglas Vickers, A Study of Mutual Funds:
Investment Policy and Investment Company Perform-
ance (prepared for the Securities and Exchange Com-
mission by the Wharton School of Finance and Com-
merce [Report of the Committee on Interstate and
Foreign Commerce, House Report No. 2274, 87th
Cong., 2d sess., August 28, 1962]), pp. 17-18.
 THE VALUE LINE CONTEST
for evaluating the ability of individuals
who are somewhat familiar with the se-
curities market to select stocks that
would outperform the market. For one
thing, the Value Line contest had a spe-
cific time horizonso that all participants
knew exactly the period over which they
were being evaluated. Second, the en-
trants had riskednothing; thereforethey
were seeking to outperformthe market
without constraints that might be im-
posed by risk limitations. To put it an-
other way, price changes were the only
variable the contestants were trying to
evaluate. In the third place, they were
not investing money; thus their predic-
tions could be tested against a market
that was free from self-fulfillingdisturb-
ances. Also, for control purposes, it is
extremely useful to have a specified uni-
verse of securities from which selections
can be made. Such specificationwas not
available in other studies. Finally, since
dividendsin the short span of six months
have a high degree of certainty, the
major element involved in the discussion
about whether the stock market is pre-
dictable revolves around the question of
price changes, which was the focus of
this contest.
The author's interest in the contest
had little to do with the competition be-
tween Value Line and the participants,
but was focused on the unstated "con-
test" between the total performanceof
the entrants and the average perform-
ance of the universeof stocks fromwhich
they made their selections. It is valuable
to have at least one report on precisely
how a large group of people fared in
selecting stocks, since this adds to the
body of knowledge about securities and
investorbehavior.Moreover,it is possible
to view the results of the contest as hav-
ing implications regarding the random-
walk hypothesis.
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255
II. IMPLICATIONS FOR THE RANDOM-
WALK HYPOTHESIS
Discussions duringthe design and exe-
cution of the researchon this paper made
it clear that some who find statistical
analysis of the contest, per se, worth-
while object if the data from the Value
Line contest is used to support implica-
tions about the validity, or invalidity, of
the random-walkhypothesis. The objec-
tions stem from some or all of the follow-
ing points: The random-walkhypothesis
relates only to short-term price move-
ments, and six months is too long a
period to be considered short term; the
random-walkhypothesis states that ex-
pected price changes are random, condi-
tional solely on prior prices and price
changes, whereas the contestants un-
doubtedly took into considerationmuch
more information;and the random-walk
hypothesis should be interpreted to in-
clude not just price changes but the sum
of price changes plus dividend income.
After considerablestudy the author is
convinced not only that differentwriters
have differentinterpretationsof the ran-
dom-walk hypothesis as related to the
stock market but that the issue can
eventually be pressed almost to a philo-
sophical, or at least semantic, level pri-
marily because the concept of random-
ness is so hard to quantify. For purposes
of this paper the random-walkhypothe-
sis will be defined as follows:
e(P+iIPo,...iPt) e(Pt+iIPt) * (1)
In prose, the above equation says that
tomorrow'sexpected price of a particular
stock, given today's and all previous
prices, is the same as the expectation of
tomorrow's price given only today's
*
6c
price.
6 The random-walk hypothesiscan also be modi-
fied to recognizethe effectsof earningsretentionand
the existenceof a positiverateof interest.That mod-
256 THE JOURNALOF BUSINESS
Stated narrowly, as above, virtually
all careful empirical studies thus far re-
ported give strong support to the ran-
dom-walk hypothesis.7But these analy-
ses are of limited practical interest be-
cause they are constrained to utilize
only price data. In the actual world of
investing, no one makes decisions on the
basis of only one kind of information.
Whether the analyst be a "chartist," a
"fundamentalist," or some other type
of practitioner,he considers more infor-
mation than is allowed in the hypothesis
as narrowlydefinedabove.
The question that is more relevant to
the real world is whether price changes,
given whatever knowledge the investor
uses, behave randomly.Some of the arti-
cles on the random-walkhypothesis ex-
plicitly cite this largerframeof reference.
For example, consider the description
given by Paul Cootner:
The stock exchange is a well-organized, high-
ly-competitive market. Assume that, in fact, it
is a perfect market. While individual buyers or
sellers may act in ignorance, taken as a whole,
the prices set in the marketplace thoroughly
reflect the best evaluation of currently available
knowledge. If any substantial group of buyers
thought prices were too low, their buying would
force up the prices. The reverse would be true
for sellers. Except for appreciation due to earn-
ings retention, the conditional expectation of to-
morrow's price, given today's price, is today's
price.
In such a world, the only price changes that
would occur are those which result from new in-
formation. Since there is no reason to expect
ification would still be completely consistent with the
interpretation presented in this paper.
7 See, e.g., the numerous articles in Paul H. Coot-
ner (ed.), The Random Character of Stock Market
Prices (Cambridge, Mass.: M.I.T. Press, 1964), and
such articles as Eugene F. Fama, "The Behavior of
Stock Market Prices," Journal of Business, Vol.
XXXVIII, No. 1 (January, 1965), and Michael D.
Godfrey, Clive W. J. Granger, and Oskar Morgen-
stern, "The Random-Walk Hypothesis of Stock
Market Behavior," Kyklos, XVII, Fase 1 (1964),
1-30.
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that information to be non-random in its ap-
pearance, the period-to-period price changes of
a stock should be random movements, statisti-
cally independent of one another. The level of
stock prices will, under these conditions, de-
scribe what statisticians call a random walk,
and physicists call Brownian motion.8
With such authority for the position
that the random-walk hypothesis need
not be confinedto the narrow view that
price changes are conditional on no in-
formation except prior prices, this paper
specifies one interpretation of the ran-
dom-walk hypothesis, as follows, letting
K, stand for all knowledgepossessed by
the investor today, includingthe current
price:
AP[Iti Kt] = 0. (2)
This restatement of the random-walk
concept, while it goes beyond the defini-
tion used by some investigators,is clearly
of greater interest to the practitionersof
investment and is consistent with the
writings of some academicians.
Having established one interpreta-
tion of the random-walkhypothesis, we
return to the line of reasoning involved
in testing whether the Value Line con-
testants outperformedthe list of stocks
fromwhichthey couldmaketheir choices.
Readerscan decidefor themselveswheth-
er they think the data are relevant to the
random-walkhypothesis.
The first question raised in this study
is the following: Did the 18,565 contest-
ants9 select portfolios, on average, that
8 Paul H. Cootner, "Stock Prices: Random vs.
Systematic Changes," Industrial Management Re-
view, III, No. 2 (Spring, 1962), 25. See also Sidney
S. Alexander, "Price Movements in Speculative
Markets: Trends of Random Walks," Industrial
Management Review, II, No. 2 (May, 1961), 7-8,
and Paul A. Samuelson, "Proof That Properly An-
ticipated Prices Fluctuate Randomly," Industrial
Management Review, VI, No. 2 (Spring, 1965), 48.
9More than 25,000 people applied for contest
entry blanks; 21,636 submitted selections, but be-
cause some of them chose stocks outside the universe
 THE VALUE LINE CONTEST
differedfrom the performanceof the 350
stocks to which their selection was con-
fined by enough to conclude that the
resultwas not likely to have happenedby
chance?The null hypothesis being tested
is this: The average score for all contest-
ants did not differ from the average per-
formance of the 350 stocks that consti-
tute the underlying universe by more
than could be attributed to the effects of
sampling.
The mathematical and logical basis
for our test is as follows:
1. Let the arithmetic mean and the standard
deviation of the percentage change in prices
for the stocks be designated M350and T35o.
2. Similarly, the mean and standard deviation
of all possible single portfolios of 25 stocks
selected from the universe of 350 will be
designated Mp25and UP25.
3. Also, the mean and standard deviation of all
possible means of 18,565 portfolios of twenty-
five stocks will be designated M19and -19.
(The subscript "19" is to remind the reader
that this represents the theoretical mean and
standard deviation of a large sample where each
observation in the sample consists of the mean
of almost 19,000 portfolios of twenty-five stocks
each. The Value Line contest provides one spe-
cific example of such a group of portfolios.)
4. Finally, let the actual mean of the Value
Line contestants be designated MVL.
Since the mean of the sampling dis-
tribution of the mean equals the mean
of the original population from which
the samples are drawn, we know that
M350 = MP25 = M19.
Similarly, because the standard error
of the sample mean in random samples
of size n is equal to the standard devia-
tion of the population divided by the
square root of the sample size,
of 350, did not choose exactly 25 stocks, did not
write the correct code number beside each stock
name, or failed to make the postmark deadline, the
actual number of portfolios evaluated in the contest
was 18,565.
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257
a3,50
UP25725 (b)
and
UP25 (
a19 18,565
The null hypothesis is that:
MVL = M19? 3oq9.
Since M19 = Mp26= M350, the null
hypothesis can also be stated AIVL=
M350 ? 3r19.
Let Ho symbolize that the average
performanceof the Value Line contest-
ants is within three relevant standard
deviations of M350;this indicates the null
hypothesis is supported.Let H1 symbol-
ize the average Value Line performance
is more than three orl fromM350;this in-
dicates the null hypothesis is denied.
To see the implicationsof accepting or
rejecting Ho, note that the process that
generates the percentage change in the
prices can be categorized as (a) random
or (b) non-random.Similarly,the process
by which the contestants selected their
portfolios can be characterized as (a)
random or (b) non-random. (The last
sentence is primarily an acknowledg-
ment of the virtue of generality;in fact,
it would be extremely unlikely if any
significant number of contestants actu-
ally did make their choices by a random
process, and an analysis of the actual
selections made reveals that the number
of times the various stocks were selected
(a) could hardly be explained by random
selection.)
These possibilities can be summarized
in the following matrix:
PRICE CHANGES ARE
THE SELECTION
PROCESS WAS
Random Non-Random
Random. Ho (1) Ho (2)
Non-random . 1.J..... (3) H1 (4)
258 THE JOURNALOF BUSINESS
If the price changes are random, then
no selection technique will generate re-
sults to refute Ho. This is equivalent to
saying that no technique for playing
against a roulette wheel will produce
results significantlybetter than random,
even if the bettor uses such blatantly
non-random techniques as betting only
on red, odd numbers.
Similarly, if the selection process used
by the contestants were random, the re-
sults would be consistentwith Ho regard-
less of the way price changes occur.
These situations are indicated by cells
(1), (2), and (3) of the matrix.
However, if the research shows that
Ho has to be rejected, then it has to be
inferred that the investors chose non-
randomly and that the price changes of
350 stocks from December, 1965, to
June, 1966, were shown to be non-ran-
dom, and by inferencethe whole random-
walk hypothesis, as interpretedabove, is
cast in doubt.
One final caveat about the interpreta-
tion of the random-walkhypothesis pre-
sented above, which is essentially based
on the analysis in the article by Paul
Samuelson cited in note 8, is this: The
view that changes in stock prices behave
like a random walk does not mean that
no expert can, with high regularity,make
money by predictingstock-pricechanges.
He might have foreknowledgeabout, or
be able to predict, something that is
highly correlated with the ex post be-
havior of stock prices. The essence of
the random-walkhypothesis is that no
one can make consistently successfulpre-
dictions about future price changes from
past or present knowledge alone. Even
if the stock market does change in a ran-
dom fashion, it would be clearly profit-
able if one could know at least twenty-
fout hours in advance of all dividenddec-
larations. However, it is doubtful if
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enoughof the Value Line contestants had
access to inside and future information
to affect the averageresults significantly.
The information they had when they
made their selectionswas the sort of past
or present knowledgethat was generally
available, and thus likely to have been
fully accounted for in the prices at the
time the selections were made. Conse-
quently, the caveat cited in this para-
graph can hardly apply.
Once again it should be emphasized
that the results of the contest merit
evaluation for what they contribute to
our knowledge of the ability of a self-
selected groupof investors to outperform
the market. Some may considerthis has
implications for the random-walk hy-
pothesis, but the primarypurposeof this
paper is merely to report the empirical
evidence and allow the readerto add his
own implications.
III. RESULTS
This section presents and analyzes the
results in the following order: (1) the be-
havior (mean, median, mode, and meas-
ures of dispersion) of the price changes
of the 350 stocks available for selection,
(2) the performance (mean and disper-
sion) of 18,565 randomly selected port-
folios of 25 stocks (which can be used as
an indication of how randomly selected
portfolios would theoretically behave,
given the actual price changes of the 350
stocks), (3) the performance(mean, me-
dian, mode, and measuresof dispersion)
of the 18,565 portfolios actually selected
by contestants. Items 4-9 reporton tests
of the hypotheses of randomprice change
and random selection followed by tests
and discussionof a number of subsidiary
questions.
1. Behaviorof the 350 stocksavailable
for selection.-The 350 stocks experienced
over the twenty-six weeks an average

loss in value of 5.957 per cent, or, in
other words, they ended the contest with
94.043 per cent of their market value six
months before. The standard deviation
of the percentage price changes for the
350 stocks during the six months was
15.93per cent. The rangewas from 202.5
per cent (1 stock, Vasco Metals, more
than doubled in price) to 64.7 per cent
50
45
40
35
CA
u 30
I-
LL
0 25
w
2 20
z
15
10
0.6 0.7 0.8 0.9
FIG. 1.-Distribution
(ConsolidatedCigar lost more than one-
third of its market value during the con-
test). The interquartile range was from
85.5 to 97.1 per cent.
When plotted in a histogram (Fig. 1)
the stock-price changes were unimodal,
but not normally distributed.They were
skewed to the right, so that the median
(90.75 per cent) was 21 per cent of one
standard deviation less than the mean.
The modal value was about 89 per cent.
The distributionnot only was skewedbut
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THE VALUE LINE CONTEST 259
also was leptokurtic; that is, it had a
higher concentration around the mean
and at the extremes than a normal curve
would have. This distribution is consist-
ent with most studies of stock-price
changes.
2. Performance of randomly selected
portfolios.-Despite the non-normality
of the distributionof the individualprice
1.0 1.1 1.2 1.3 1.4 1.5 1.6 1.7 1.8 1.9 2.0 2.1
ENDINGPRICE
BEGINNINGPRICE
of price changes of 350 stocks
changes, the distributionof the perform-
ance of portfolios of 25 stocks selected at
randomfrom such a group should closely
approximate a normal distribution. To
demonstrate this, and for comparison
with the portfolios actually selected by
contestants, a computer program was
written to select a portfolio of 25 stocks
randomly from the 350 involved in the
contest and to calculate that portfolio's
performance; the selected stocks were
then "replaced"and the processrepeated
All use subject to JSTOR Terms and Conditions
 260 THE JOURNALOF BUSINESS
many times, until 18,565 such portfolios
had been selected.'0The result simulates
what would have happened if the con-
testants' stock selections had been ran-
dom or if their selections-no matter
how artful-had been made from stocks
whose price changeswere then generated
by a truly randomprocess.
The mean score of the 18,565random-
ly selected portfolios was 94.05. This
agrees closely, as it should, with the 350
stocks of 94.04. The standard deviation
of the 18,565 portfolioswas 3.08 per cent
(vs. 3.18 per cent, which represents15.93
per cent divided by V/25).
3. Performance of contestants' port-
folios.-The foregoinghelps to show how
it can be statistically significant when
such a large group as our 18,565 contest-
ants achievesaverageresultsthat diverge
from the mean of the 350 stocks by even
a small amount. It is helpful here to
recall the number of different possible
portfolios of 25 stocks that could have
been selected, namely, 107.1 X 1036.
Then imagine that these were lumped
together by randomly chosen groups of
18,565 portfolios each! There would be
107.1 X 1036f!
(107.1 X 1036-18,565)! 18,565!
differentways to collect 18,565portfolios,
each containing 25 stocks from the 350.
Clearly the mean score of all these would
be extremely close to the mean score of
the underlying stocks, and the vast ma-
jority would be quite close to that mean.
In fact we would expect that approxi-
mately 68 per cent would lie within
.00023 (or i 3 of 1 per cent) on either
side of the mean. (Remember that the
score of the one random selection simu-
10 The possible number of different 25-stock port-
folios selected from a universe of 350 stocks is 350!V
325!25!, which turns out to be 107.1 X 1031,or 107
trillion, trillion, trillion.
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lated on the computer was within Hf-ol
of 1 per cent of the mean.) Furthermore,
all but 139 out of 100,000 such portfolio
groupings would lie in a range of about
7
w of 1 per cent from the mean of the
underlying350 stocks. Thus, unless some
non-randomphenomenonwere involved,
the mean results of the 18,565 Value
Line contestants should have equaled
the mean of the 350 stocks, namely,
.9404, or at least been in the range from
.9397 to .9411.
In fact, the average score achieved by
the 18,565 contestants, .9523, is about
forty-nine relevant standard deviations
greater than the expected mean. It is
extremely unlikely that a difference as
large as this would have occurred if the
price changes during those six months
were so truly randomthat investor selec-
tivity would be of no value. That the
contestants did not select randomly is a
necessary, but not a sufficient, explana-
tion for the observed difference. If the
price changes were truly created by ran-
dom behavior, the contestants could not
have achieved significantly better-than-
average results no matter how deliber-
ately they made their selections. The
results can only be explained by the
additional hypothesis that the price
changes were not generated by a ran-
dom process.
The distribution of the 18,565 contest
portfolios and the 18,565 randomly gen-
erated portfolios is pictured in Figure 2.
The range of contest portfolio scores was
.8425 to 1.1574. The interquartile range
was .9105 to .9795. The median contest-
ants' score was .9479, and the modal
score was in the .9300-.9399 bracket.
The standard deviation of the 18,565
actual portfolios was 4.39 per cent.
After-the-fact data may seem obvious
and perhaps uninteresting. The average
score achieved by the contestants was
 THE VALUE LINE CONTEST 261

only about 1.2 per cent above average
results. Is this very noteworthy? The
answer depends on what one expected,
which makes it worth quoting the opin-
ion of one professionally competent in-
dividual who was asked to review a re-
quest for financial support necessary to
underwritethis study. He recommended
against providing financial support, in-
dicating, among other things, that the
contestants should be characterized as
uninformed investors, selecting among
stocks they knew little about, using
poorly formulated predictions. He con-
cluded, "We would be astounded to find
the null hypothesis rejected.... Consid-
ering the [very low] a priori probability
of rejectingHo, we do not think it would
further our objectives to financially sup-
port your research."
The Value Line contest showed that
contestants were able, as of December
5, 1965, to exercise selectivity among
350 stocks and achieve results that are
not explainable unless subsequent price
changes were predictableenough to rule
out the conclusionthat they could have
been random.
4. Effectof non-normalityof the 350 in-
dividual stock-pricechanges.-The differ-

FREQUENCY
14.0%
DISTRIBUTIONOF 18,565 PORTFOLIOS
13.0% - REALIZEDIN THEVALUELINECONTEST

12.0% - OF 18,565 SIMULATED

DISTRIBUTION
PORTFOLIOSCREATEDBY RANDOM SELECTION

11.0%

10.0% SIMULATED

9.0%

8.0%

7.0%

6.0% >
\ ~~~~~ACTUAL
5.0%

4.0%

3.0%

2.0%

1.0%

0
.85 .90 .95 1.00 1.05 1.10 1.15
ENDINGPRICE + BEGINNINGPRICE

FIG. 2.-Distribution of actual versus randomly selected portfolios

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All use subject to JSTOR Terms and Conditions
262 THE JOURNALOF BUSINESS
ence of 1.2 per cent between the mean
score of the 350 stocks and the 18,565
portfolios of 25 stocks appears to be ex-
tremely unlikely to arise from sampling
error if the population of all samples of
size 18,565 (where the item observed is
the mean performanceof a 25-stockport-
folio) is normallydistributed.It is highly
probable that the sampling distribution
of means of 18,565 portfolios would ap-
proximatenormality because of the cen-
tral-limit theorem, especially in view of
the near-normalityof the sampling dis-
tribution for means of single 25-stock
portfolios, which would be the universe
from which 18,565 portfolios would be
chosen. Data for the randomlygenerated
25-stock portfolios (where n = 18,565)
are shown in Figure 3, where the cumu-
lative percentage distribution for that
group of portfolios is plotted on proba-
bility (or normalcurve) graph paper;the
points lie close to a straight line. How-
ever, if we are willing to make an as-
sumption about the size of the true
standard deviation for the population of
the means of all possible 18,565 25-stock
portfolios, we can ignore the issue of
whether the distribution is normal and
use Tchebycheff's inequality. Assuming
normality, we estimated that the stand-
ard deviation of the true distribution of
18,565portfoliosselected from the stocks
in this contest should be close to T2 of
1 per cent. But even if it were, in fact,
as large as 1 of 1 per cent (nearly six
times greater than would be expected),
then, regardlessof the shape of the dis-
tribution, we would not expect a positive
differencefrom the mean as large as 1.2
per cent to be actually achieved by the
contestants more than one time in two
hundred.
5. Did contestants benefit by avoid-
ing dividends?-Several additional issues
have to be evaluated before the above
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All use subject to JSTOR Terms and Conditions
conclusion can be completely accepted.
Probably the most important concerns
the fact that the contest focuses solely
on price changes,giving no credit to divi-
dend income that might have been re-
ceived during the six months. If it is
assumed 'that for different stocks of
equivalent risk and for a period such as
six months, total expected return to the
investor (dividends plus price change)
will be approximately equal, then the
lower the expected dividend yield, the
more the expected capital gain. Conse-
quently, the selectivity the contestants
exhibited may have been only that
amount necessary to choose stocks pay-
ing low dividends. To test whether the
contestants' ability to outperform the
market was simply associated with an
avoidance of stocks yielding high divi-
dends, a rank correlation was run be-
tween the frequency with which the
stocks were selected by contestants and
the estimated yield for the comingtwelve
months, as published in the Value Line
Investment Survey on December 3, 1965.
If the contestants' selectivity consisted
of choosing low-dividend yielders, there
should have been a statistically signifi-
cant negative correlation between the
number of times the stock was chosen
and its yield. The actual rank correla-
tion was -.006, which is in no way sta-
tistically significant.This indicated that
the contestants' performancewas based
on somethingother than dividend avoid-
ance.
6. Was the contest period representative?
-Another possible objection arises be-
cause, instead of having a sample of
18,565 portfolios, there is only a sample
of one contest with a particular set of
beginning and ending dates. This would
suggest there was some unusual phe-
nomenon that prevailed as of early De-
cember,1965,which the contestants took
 THE VALUE LINE CONTEST 263

into consideration, consciously or not,
but which the market had not already
discounted. If such were the case, then
the selectivity exhibited in the contest
would not necessarily appear at other
times. This question can be settled only
if Value Line (or some other organiza-
tion) holds similar contests in the future
and the contestants' results are repeated-
ly tested against the mean performance
of the stocks in the contest universe. In
that case, this paper can be viewed as
the first reporton a continuingarea of re-
search. Fortunately for the field of in-

0
w
rL/
w

0~

w
UI

w
L-
w

U.

0I-I
0

U-
1-

w
a-

.85 .90 .95 1.00 1.05 1. 10

SCORE

FIG. 3.-Normal probabilitygraphfor performanceof randomlygeneratedportfolios

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All use subject to JSTOR Terms and Conditions
 264 THE JOURNALOF BUSINESS
vestment research,Value Line is sched-
uling a second contest for the spring and
summerof 1967and may conduct further
ones from time to time.
7. Werecontestantssimply "playingthe
long shots"?-A final objection might be
that the contestants were not really able
to select individual stocks with better-
than-average prospects, but that they
were able to distinguish stocks with
greater variance from those with less
variance. (Some formulationsof the ran-
dom-walkhypothesis would permit such
an ability to stratify securities by the
amount of their price-changeamplitude.)
This would requirethat the contestants
(or at least enough of them to affect the
results) foresaw the market decline that
actually occurred and selected stocks
that would move (in this case, down)
with less amplitude than the average se-
curity in the list. This argument, how-
ever, seems farfetchedin view of the sit-
uation at the time of the contest. The
market had been rising on a broad trend
for nearly three years, with none but the
most minor interruptionssince July, and
the generaltone of forecastswas optimis-
tic. It would be impossible to document
the claim that most people were optimis-
tic about the stock market at the time
the contest began, but one piece of evi-
dence comes from predictions by thirty-
five faculty membersof the UCLA School
of Business Administrationwho partici-
pated duringthe last week of November,
1965, in the school's annual Business
Forecasting Conference. Among other
things, they predicted the Dow-Jones
Industrial Index for 1966; the summa-
tion of their forecasts was for the index
to range between 1,038 and 875, with a
mean value of 960. Since the Dow Indus-
trial stood at 948 on December 1, this
was not a bearish forecast.
Another piece of evidence regarding
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the generaloutlook for the market at the
time the contest began is obtained from
the "Report of the Finance Committee
of the AmericanEconomic Association,"
prepared in mid-December, 1965. "The
Finance Committee remainsmildly opti-
mistic as to the trend of general business
and corporate profits.... Therefore, the
Committee believes that a fairly aggres-
sive investment position is still desirable
in spite of the high level of the stock
market and long duration of the present
period of business expansion.""
In short it is difficult to believe that
the sharp downturn in the stock market
that began in early February, 1966, was
foreseen by many contestants. Further-
more, if they chose stocks on the basis
of selecting those that would change
more than the market in either direction
(because the rules of the contest did not
penalize exaggerated downside perform-
ance, while exaggerated upside per-
formancemight win them a prize), then
the over-all performanceof the contest-
ants should have been worse, not better,
than the average of the 350 stocks, be-
cause the market was lower at the end
of the contest than at the beginning.
8. Some measuresof selectivityof con-
testants' portfolios.-The fact that con-
testants did not select securities at
random in making their portfolio selec-
tions can be proved, though it is hardly
11 "Report of the Finance Committee," American
Economic Review, LVI, No. 2 (May, 1966), 623.
12Mr. Sam Eisenstadt, chief statistician for
Value Line, commented on this point in a letter to
the author: "the market was unique in this six
months' interval. Although Standard & Poor's com-
posite average declined 5.91%, Standard & Poor's
index of low-priced stocks declined 2.31% in contrast
to its index of high-priced stocks, which declined
9.78%. To the extent one can classify low-priced
stocks as volatile and high-priced stocks as being of
high quality, the market was exceptional because it
was a declining market in which the low-priced stocks
outperformed the blue chips."'
 THE VALUE LINE CONTEST 265

conceivablethat many contestantswould Line's contest was to evaluate the per-

be so flippant or casual about the contest formance of the contestants against the
as to select stocks randomly. Nonethe- securities from which they had to select.
less, the number of times each security It is clear that the average performance
was selected in the contest was deter- of the contestants was better than could
mined, and the frequencyof actual selec- have been expected if one believes that
tion was compared to the expected fre-
TABLE 1
quency that would be generatedif stocks
PRICE PERFORMANCE OF THE THIRTY-FIVE
were selected randomly. A x2 test was
MOST FREQUENTLY SELECTED STOCKS OVER
applied to see if the actual frequency of THE DURATION OF THE CONTEST
selection differedfrom the expected by a
statistically significantamount. The dif- Ratio of
ference was in fact so great that the No. of
Price at
End of
resulting x2 value was not given in Name of Stock Contestants Contest
tables, the statistical significance being Choosingk
theoStock
Divided by
Price at
beyond the .001 probability. One way to Beginning
illustrate how non-randomthe selections
1. Control Data......... 7,413 .794
actually were is to note the fact that 2. Bell & Howell ........ 5, 817 1.065
when 18,565 portfolios were generated 3. Chrysler Corp..... ... 5,307 .811
4. Cenco Instruments.... 5,016 1.145
randomly, the five stocks that least 5. Caterpillar Tractor.... 4,940 .810
frequently appeared in this random 6. Brunswick Corp....... 4,811 .973
7. Gillette Co........... 4,593 .939
simulation showed up on an average of 8. American Tel. & Tel... 4,480 .880
1,239 times (the lowest one being 1,213 9. Northrop Corp........ 4,372 .775
10. Parke-Davis .......... 4,315 1.016
times). The five stocks that showed up 11. Columbia Broadcasting 4,021 1.320
the most times averaged 1,417 (the most 12. Revlon ............... 3
3,895 1.129
13. Monsanto Chemical... 3,689 .917
frequent being 1,434). These numbers 14. United Nuclear Corp.. 3,659 1.000
suggest the range around the average 15. High Voltage Engineer. 3,621 1.030
16. Curtiss-Wright ....... 3,530 .796
expected selection of 1,326 times that 17. American Enka ....... 3,494 1.020
might occur if stocks had been selected 18. Gulf Oil Corp......... 3,449 .884
19. Texaco .............. 3,338 .889
randomly. In contrast, the five stocks 20. American Photocopy. . 3,293 .897
selected least frequently in the contest 21. Western Union ....... 3,252 .751
22. Singer Mfg ........... 3,090 .917
appearedon the average 108 times (the 23. Royal Dutch Petrol.... 2,994 .892
lowest being 83 times), and the five 24. Transamerica ....... . 2,917 .818
25. Greyhound Corp...... 2,901 .867
stocks selected most frequentlyaveraged 26. E. J. Korvette........ 2.886 .726
5,700 times (the highest being 7,413 27. Gen. Portland Cement. 2,881 .867
28. Rayette, Inc......... . 2,874 .934
times). Furthermore, the actual selec- 29. Lithium Corp......... 2,850 .944
tions showed that 190 securities were 30. Sterling Drug ...... . 2,785 .919
31. Winn Dixie Stores .... 2,773 .886
selected fewer than 1,213 times, which 32. Abbott Labs.......... 2,772 .961
was the least frequent when portfolios 33. W. R. Grace & Co.... 2,665 .834
34. Standard Oil of N.J.... 2,654 .905
were generated randomly, and that 126 35. Electric Storage Bat-
were selected more often than 1,434, tery ................ 2,638 .947
which was the most frequent in the ran-
NOTE.-If all stocks had been chosenrandomly,the expected
dom selection. Table 1 shows data for numberof times each stock would have been selected was 1,326.
The average performanceover the contest period for the ten
the 10 per cent most frequently selected most popular stocks was .921; for the next ten most popular
stocks the performancewas .988; for the thirty-five most fre-
stocks. quently selected stocks the average price performancewas .921,
or a loss of 7.9 per cent. For all stocks in the universe, the aver-
The major goal of this study of Value age price ratio was .940.

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266 THE JOURNALOF BUSINESS
stock prices are utterly unpredictable. the contest were used to determine the
To the extent that the random-walkview performanceof the fourteentrend-extrap-
hypothesizes that stock-price changes olated portfolios; for example, the 25
over a periodsuch as six months are com- stocks that had done the best the prior
pletely unpredictable, this study casts six months would, as a portfolio, have
doubt on such a hypothesis. had a score of 96.9 per cent in the con-
TABLE 2 test. The fourteen naively selected port-
folios were then ranked according to
CONSISTENCY OF PERFORMANCE OF FOURTEEN
PORTFOLIOS SELECTED ON BASIS OF PRIOR
their performance during the contest
SIX MONTHS' PERFORMANCE* period. One measure of the consistency
of past and future performance is the
Portfolios Composed rank correlation between the achieve-
of Stocks Whose Score Achieved by ment of the portfolios during the contest
Prior 6-Months' the Portfolio dur- Contest Rank
Performance ing the Contest time and their record for the prior six
Ranked Them: months. This is shown in Table 2; the
1-25 ..9692 5 rank correlation was +.12, which was
25-50 ..9884 3 not statistically significant.
51-75 ..8871 14
76-100 ..9987 1 10. Did contestantsprofitfrom twodays'
101-125 ..9320 7 moreinformation?-The rules of the con-
126-50 ..9079 13
151-7 ..9148 9 test created anotherpossibility that war-
176-200 ..9184 8 rants examination.The contestants were
201-225 ..9099 10
226-250 ..9602 6 permitted to submit entries postmarked
251-275 ..9711 4 no later than Sunday, December5, 1965,
276-300 ..9083 12
301-325 ..9915 2 but their selections were priced as of the
326-350 ..9091 11 close of the market on Friday, December
Mean of: 3. The question arises, did a significant
Top seven port- numberof contestantsutilize information
folios . .9426
Bottom seven that became available over the weekend
portfolios .9384 to select stocks on Sunday that looked
* Rank correlation = + .12.
better than they might have at the close
on Friday? Perhaps the use of two days'
9. Comparisonwith a naive, trend-ex- hindsight might explain how the con-
trapolation technique of selection.-Per- testants outperformed slightly, but sig-
haps the contestants selected their port- nificantly,the universeof stocks to which
folios on the basis of the price perform- their selections were confined.
ance of stocks in the prior six months To test this possibility, the thirty-five
under the assumption that trends tend most frequently chosen stocks were in-
to persist. To test this, the 350 stocks vestigated to see how they performed,
were rankedaccordingto their price per- both over the weekend and over the
formance for the twenty-seven weeks entire period of the contest. If the most
prior to December 3, 1965, and fourteen frequently selected stocks opened on
portfolios were constructed placing the Monday morning,December 6, at prices
25 stocks that did the best in the priorsix that were relatively favorable compared
months in portfolio 1, the 25 stocks that with Friday's close, it could be inferred
ranked-26-50for the prior six months in that contestants took advantage of week-
portfolio 2, etc. The prices at the end of end news items in selecting their stocks.

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 THE VALUE LINE CONTEST
As it developed,the thirty-fivemost pop-
ular stocks in the contest opened on
Monday at an average of 2.2 per cent
below their Friday's close; this is com-
pared to the Dow-JonesIndustrialAver-
age, which opened 1.6 per cent below its
Friday close. By implication, any infor-
mation obtained on Saturday or Sunday
had little to do with guiding the most
frequent selections.
A further point of some interest is
whether the thirty-five most widely
chosen stocks outperformedthe universe
during the entire contest, even if they
might have done poorly at the very be-
ginning. Table 1 lists the stocks in order
of their popularity and shows the ratio
of each one's price at the end of the
contest to the openingprice. On average,
the thirty-five most popular stocks had
an ending value of 92.1 per cent of their
original prices, or a loss of 7.9 per cent,
comparedwith a loss in the total list of
nearly 6.0 per cent.
The investigation of the performance
of the most frequently selected stocks
shows that the contestants' superiorper-
formance is not explained either by
knowledgethey may have obtained over
the weekend at the beginningof the con-
test or by the six months' performance
of the stocks that ranked in the top 10
per cent in terms of popularity.
11. Value Line's performance.-Final-
ly, in evaluating the predictabilityof the
stock market it would be incompletenot
to mention the performance of Value
Line's own selections in the contest, al-
though this is difficult to evaluate rigor-
ously. ValueLine's performancesupports
the view that stock-price changes have
some degree of predictability, because it
is difficult to ignore the fact that Value
Line's scorewas exceededby only twenty
people out of nearly twenty thousand.
If stock-pricechanges are truly random,
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267
there should be no significantdistinction
between the 100 stocks in Class I, which
Value Line reservedfor its universe, and
the 350 that were provided for the con-
testants. Since the standard deviation of
the 350 stocks was approximately16 per
cent and a standard deviation of a port-
folio of 25 should be close to 2.3 per cent,
we would expect that Value Line's per-
formance would be within the range
94.04 per cent ? 6.9 per cent 986 times
out of 1,000. The actual amount (nearly
17 per cent) by which Value Line out-
performed the average of the contest-
ants' stocks is clearly too great to ex-
plain by happenstance. Furthermore,it
is certainly worth noting that the aver-
age performanceduring that six-month
period for each of Value Line's categories
was in the proper relationshipaccording
to the company's predictions. This in-
formation is found in Table 3. Even
when the appropriatevariances are con-
sidered, the performanceof Value Line
in the contest or in its general selectivity
becomes significant by standard statis-
tical tests. This conclusion, however,
must be qualified by factors that are
beyond the scope of this paper to evalu-
ate. For one thing, there is the question
of the extent to which Value Line's
good results may have arisen from the
phenomena of self-fulfilling predictions.
There is no way of knowing how much
influence Value Line has on the stock
market through its subscribers, library
readers, or others who may be affect-
ed by obtaining its recommendations
secondhandfrom brokersor friends. Fur-
thermore,Value Line manages three mu-
tual funds and quite properlybuys stocks
for these funds that are given high rank-
ing by its advisory service. It may be
that Value Line in actuality has so little
impact on the market that the perform-
ance of its recommendationscan be test-
268 THE JOURNALOF BUSINESS
ed against subsequent market perform- conduct a second contest will provide
ance without any allowance for the self- another opportunity to evaluate its
fulfilling aspect of its advice; on the performance.
other hand, it may be that a market
where supply and demand are in close IV. CONCLUSION
balance can be tilted by a significant The evidence from this study indi-
amount when a well-regarded, widely cates that the stock market, during at
distributed advisory service makes rec- least the six months of the contest, had
ommendations. This might be particu- enough elements of predictability that
larly the case when ValueLine announced it is difficultto believe the price changes
TABLE 3
PERFORMANCE OF VALUE LINE'S PORTFOLIO AND STOCK GROUPINGS DURING
THE CONTEST PERIOD DECEMBER 3, 1965-JUNE 3, 1966

Percentage of
Average of S.D. of the Percentage of Stocks that
Percentage Changes Price Changes Stocks that Went up More
in Prices (Per Cent) Rose in Price than the
1,072 Stocks

Value Line defending list of 25 stocks. +10.984 25.25 48.0 68.0

All 100 stocks ranked in Class I ..... ..... + 5.105 19.40 53.0 70.0
All 259 stocks ranked in Class II ....... . + 3.101 19.00 45.6 62.5
All 363 stocks ranked in Class III .- 0.774 17.48 40.5 52.3
All 250 stocks ranked in Class IV ......... - 5.228 15.99 23.2 36.0
All 100 stocks ranked in Class V.......... - 7.779 15.57 14.0 25.0
Average percentage changes of all stocks
ranked I, II, III, IV, and V.- 0.982
Median change of all stocks .............. - 5.00
Change in Dow-Jones Industrial Average.. - 6.16

the 25 stocks it had selected for the con-
test, since this contest was unprecedent-
ed in the investment world and the sig-
nificance of the contest to Value Line's
reputation was so obvious that most
people would believe the company had
considerableconfidencein the 25 stocks
it had selected."3
A second qualification arises from the
consideration, once again, of the repre-
sentatives of the contest period. It is
possible that Value Line's performance,
even though it was apparently statisti-
cally superior,was unique to that contest
period. But it is impressive that Value
Line was willing to state and publicize
so widely its expectations and their out-
comes. Also, Value Line's willingness to
were generatedrandomly.Since this con-
clusion differs from most of the prior,
carefully conducted, statistical studies,
it is worth asking why. Two answers
suggest themselves. Most of the prior
13 Regarding the question of self-fulfilment, Ar-
nold Bernhard made the following comment in a
letter to the author: "I can understand how in a
market where trading is evenly balanced, the recom-
mendation of an influential service or the purchase
by mutual funds might tilt the price upward for a
brief time. But have you considered that the stocks
Value Line selected for its list were selected from
those ranked I before the contest list was published?
If there had been self-fulfillment, it would have
worked against us, it would seem. True, the thrust
of a I rank on 100 stocks is not quite so vigorous as
a I rank on 25. But still, insofar as our service has
influence, you might want to take into consideration
that we did recommend these stocks as I's before
selecting them for our contest; and these ranks, in

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All use subject to JSTOR Terms and Conditions
 THE VALUE LINE CONTEST
research was attempting to see if the
market changes demonstrated predict-
able patterns conditional on fairly limit-
ed amounts of information, such as the
most recent price change and the current
volume. The contestants, however, used
their full range of informationin making
selections. Second, prior studies, because
of the data they used, were not able to
demonstratein a conclusivefashion that
a moderateamount of predictabilitywas
statistically significant. If the price
changes are close to random, but not
quite, the results would normally fall in
the range where the evidence of predict-
ability would not be statistically signifi-
cant. In contrast, because of the large
numberof stocks in the contest universe,
practically every case, were in being for weeks prior
to the contest. Conversely, the stocks Value Line
ranked IV and V were so ranked before the contest
started. According to the self-fulfillment theory, that
should have worked against us, too, because it
should have artificially depressed stocks that con-
testants were eligible to choose. Much as I should
like to believe it, I doubt that any service can influ-
ence the market over a period of six months."
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All use subject to JSTOR Terms and Conditions
269
the requirementfor twenty-five stocks in
each portfolio, and the large number of
contestants, it was possible in this study
to apply extremely precise standardsfor
comparingobservedversus expected per-
formance.
The results of the contest still leave
two questions unanswered:Was the pre-
dictability peculiar to this segment of
time? Would the marginof predictability
have been even greaterif the contestants
were somehow limited to investors with
above-averagequalificationsof somesort,
or ones who were motivated to spend
more time and thought on their choices?
On the first of these questions, at
least, we can hope that more information
will become available from the second
contest, now in process.The secondques-
tion poses so many problems regarding
the determination and measurement of
qualificationsthat it is unlikely that em-
pirical evidence will ever become avail-
able; nonetheless, it is hard to believe
that the margin of predictive ability
would not be greater for well-informed
investors.