All manuals intro to economics will tell you in a system of free competition, corporate profits, regardless of industry, tend to align with the average. This is undoubtedly one of the most laws important to the economy. Thus, a successful company to grow its profits by 20% per year, in an industry where the average growth is 10%, can not maintain that pace for long. One day or another, and rather short and long term, its growth rate will approach that of companies in its sector. There are certainly exceptions, but just what are the exceptions to the rule.

The reason behind this phenomenon is straightforward: a firm that has growth and profitability out of the ordinary will rise to new competitors looking for a piece of the pie. In contrast, any company that is experiencing profitability and growth will be below average some of its competitors move to other more profitable niches, allowing it to increase prices and profitability in As a reduced competition.


This law of economics, in the universe of listed companies, was confirmed in 2000 and 2003 by two teams of researchers among the most renowned of the U.S. financial economy. However, financial analysts and fund managers continue to ignore, so beautiful, this implacable reality. To their detriment and that of small investors.

Eugene Fama and Kenneth French, the two main proponents of the theory of efficient capital markets in the U.S., have co-signed in 2000 a study on the predictability of corporate profits published in the prestigious Journal of Business. Using a large sample of over 2,300 listed companies between 1964 and 1996, they showed that it is very difficult for a company to keep for a long time profitability (return on equity for example) than the and an average rate of profit growth that exceeds one year with that of its competitors.

These authors calculated, inter alia, that the rate of regression to the mean was 38% per year. What this figure may mean? If, say, a company achieves a return on its shareholders 100% higher than its competitors, it is expected the following year, realizing a return of only 62% higher than average recorded by competitors (100% – 38% = 62%). The following year, the competition should lose another 38% growth rate. At this rate, we understand that it must be more careful when we extrapolate the growth of a company’s profits for the next five years, from its historic past five years.

Fama and French conclude their study by saying that financial analysts should be more aware of these trends in their forecasts of corporate profits, both short term (one year) and longer term (five years). What they do not obviously. If financial analysts do not, I doubt that you do it yourself. You are convinced that the best way to predict financial performance of a company is to look in the mirror to see what has happened in recent years. Misleading and dangerous method.

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