Today Robeco is launching its latest factor investing strategy. This strategy complements its high yield range and broadens the scope of its existing multi-factor approach in the global corporate bond markets. The strategy is not new, as it has been used since 2005 to manage a sub-portfolio of the fundamental high yield bond strategy. It is also very similar to Robeco’s successful Global Multi-Factor Credits strategy which focuses on the investment grade market but has some high yield allocation too. It is therefore a logical step to extend this approach to the high yield market and open it up to a wider range of investors.
Robeco QI Global Multi-Factor High Yield is an innovative strategy that applies a systematic approach to offer balanced exposure to the low-risk, quality, value, momentum and size factors in the global high yield corporate bond market. A quantitative multi-factor model forms the basis of the strategy. Before buying any bond, credit analysts perform a final check to identify additional risks that are beyond the scope of the model. In a market where some bonds trade only once a month or even less, liquidity management forms a crucial part of the investment process. Performance versus the market is driven by issuer selection alone – the portfolio’s credit market, duration and FX exposures are kept in line with those of the benchmark.
‘Systematic approach to efficiently harvest factor premiums in the high yield market’
The Quant Credit team has spent the last two decades refining Robeco’s approach to deliver a superior risk-return profile in its factor-based credit strategies. The factor definitions that are applied in academic research have been enhanced to reduce unrewarded risks and to include information that extends beyond the bond markets, to further improve the factors’ risk-return profiles. In-house research shows that all factors deliver higher returns and higher risk-adjusted returns than the market and that they tend to exhibit low mutual correlations in terms of outperformance.
In Robeco QI Global Multi-Factor High Yield the investment universe is the Bloomberg Barclays Global High Yield Corporates ex Financials Index. For each bond in that index a score is calculated for each factor and then combined to give a total multi-factor score, to ensure the resulting portfolio has balanced exposure to all factors. This total score determines the attractiveness of each bond. The exception is the size factor which is incorporated later in the portfolio construction phase by equally weighting all the issuers.
Although the buy and sell decisions are primarily based on the signals given by the multi-factor ranking model, portfolio managers and fundamental credit analysts play an important role too. They identify additional risks that lie beyond the scope of the quantitative model and that are more difficult to quantify, such as geopolitical risks, litigation risks, ESG risks or events that could have an impact at corporate level, like mergers or acquisitions, split-ups, leveraged buyouts and activist shareholder activity. If anything negative emerges from this analysis, they can overrule the model and opt not to invest in a bond, or sell an existing portfolio holding, regardless of the model’s score. They also ensure that the parent company guarantees the bonds of the issuing entity, as it is essential to ensure that the correct accounting and equity data are fed into the model.
Bonds that the model selects may not be available in the market, simply because they do not trade enough. To overcome this hurdle, a methodology was developed to measure the liquidity of individual bonds in real time. The system collects liquidity information from a variety of sources, including trading systems and pre-trade transparency platforms. When combined, this information gives an estimate of the available trading volume for each specific bond allowing transactions to be selected that are more likely to be executed successfully.
This quantitative framework enables a well-diversified, equally-weighted portfolio of at least 150 unique companies to be constructed, selecting bonds with strong multi-factor model scores that fit the risk and allocation constraints, something that would not be feasible using a purely manual approach.
Backtesting was carried out on the Global Multi-Factor High Yield strategy for the period 1994 to 2017. In the backtest we simulate the availability of individual bonds, so that more liquid bonds have a higher chance of ending up in the portfolio, and take transaction costs into account. The backtest results were very satisfactory: the strategy earned a higher return than the benchmark, with a similar volatility and thus generated a higher Sharpe ratio. The target outperformance of the strategy is 150 bps per year, to be earned over a full investment cycle.. The strategy’s preference for lower-risk bonds issued by safer, higher-quality firms means that investors should expect this strategy to show stronger performance in bear markets than in bull markets for high yield.
Robeco QI Global Multi-Factor High Yield brings factor investing to high yield markets and offers clients who invest in traditional high yield strategies a means to diversify their exposure and generate alpha in a different way. Liquidity challenges are overcome by embedded liquidity management in the investment process to ensure effective low-cost execution. The strategy can be an attractive alternative to passive investors due to its attractive fees, transparent and rules-based approach and because it has a higher Sharpe ratio than a passive market-tracking portfolio.
For more on Robeco’s quant high yield bond strategies, also read ‘A late-cycle approach to high yield’.
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