Glamour,value and anchoring on the changing P/E

The fact that value shares outperform glamour shares in the long term has been known for over 50 years. Why then do glamour shares remain popular? The price-earnings (P/E) ratio was the first statistic documented to discriminate between the two. Using data for all US stocks since 1983, we find that glamour shares have a much greater tendency to change P/E decile than value shares. We use TreeAge decision tree software, which has not been applied to problems in finance before, to show that glamour investors cannot rationally expect any windfall as their company's P/E decile changes, whatever their horizon. We infer that glamour investors anchor on the initially high P/E value, underestimate the likelihood of change and are continually surprised. We also seek theoretical justification for why value shares tend to outperform glamour shares. No convincing arguments based on the efficient market hypothesis have been put forward to show that the outperformance of value shares might be due to their being fundamentally riskier. Here, we apply equations from option theory to show that value shares can indeed be expected to outperform glamour shares.