Strategic allocations to factor premiums: the next big thing?

Strategic allocations to factor premiums: the next big thing?

10-07-2012 | インサイト

“Why limit yourself to the equity premium,” asks David Blitz, Head, Robeco Quantitative Equity Research, “when there are systematic factor strategies that outperform market-cap-weighted benchmarks?” Recent research from Robeco looks at how to translate the theory of factor premium investing into practice.

  • David Blitz
    David
    Blitz
    PhD, Executive Director, Head of Quant Selection Research.

Speed read

  • Factor premiums, such as value, momentum and low volatility, can outperform market-cap weighted benchmarks
  • Innovative pension funds are adopting the “Norway model” of strategic allocation to factor premiums
  • Recent Robeco research demonstrates how to optimize factor premium exposure

Innovative institutional investors are reassessing their equity portfolios. David Blitz, speaking at Robeco Summer University 2012 in Madrid, described how research by academics and pensions funds is providing the basis for a transition to a new way of thinking about strategic equity allocations.

最新の「インサイト」を読む
最新の「インサイト」を読む
配信登録

The Norway model

One of the most influential studies was conducted for Norges Bank Investment Management (NBIM), which is the largest pension fund in the world and responsible for managing Norway’s oil wealth. The research began as a long-term evaluation of the pension fund’s active management strategies.

Three distinguished academics, Andrew Ang (Columbia Business School), William N. Goetzmann (Yale School of Management) and Stephen M. Schaefer (London Business School) produced a comprehensive report revealing that approximately 70% of all active returns to NBIM since its inception in 1998 could be explained by exposures to various systematic factors.

While evidence of a return from active management was appreciated, the analysis exposed that the source of the return was actually a byproduct of bottom-up security selection.

The authors recommended that NBIM begin using “a more top-down, intentional approach to strategic and dynamic factor exposures.” While NBIM has not yet followed this advice, strategic allocation to factor premiums was subsequently dubbed “the Norway model.”

Other large pension fund managers, however, have taken action. PGGM, for example, which manages EUR 100 billion for the Dutch health care sector, was a first-mover. It restructured its equity portfolio in this direction some time ago, allocating 40% of equity holdings to three factor premiums: value, low-volatility and quality.

More recently, PKA, a large Danish pension fund, cited the results of the NBIM study as an input into its changes in strategic equity allocation. While not yet fully implemented, it is targeting exposure to a range of equity factor premiums, such as value, momentum and low-volatility.

The rise of factor premiums

Obviously, the shift in interest toward factor premiums did not happen overnight. As Blitz explains, it began years ago when academic research began to question the efficiency of market-cap-weighted indexes. “There is a stream of literature that clearly says that market-cap-weighted indexes are not efficient and that other strategies, such as those focused on value and momentum, yield attractive returns,” says Blitz.

Ignoring these premiums has been cited as the reason so many mutual funds fail to outperform benchmarks, leading to the impression that active management is ineffective. “In fact,” notes Blitz, “research by Robeco and others has found that there are certain types of funds that do beat the market. These are the funds that are following systematic factor strategies, such as value and momentum. It is possible to beat the market-cap index using factor premiums.”

Factor premiums deliver superior performance

Robeco’s own research confirms the importance of factor premiums in equity returns. “Studying the large, liquid portion of the US market since the 1960s, we identified three factor strategies as the most interesting: value, momentum and low-volatility,” says Blitz.

“If you look at returns, you see these factors clearly delivering superior performance over the past fifty years. Not only is there abundant evidence of the strength of these equity premiums in the US market, they are also found in Asian, European and emerging markets as well.”

But this is not really groundbreaking news. The volatility effect was first recognized in the 1970s; value investing has been around for decades--if not longer; and the momentum factor was documented more than 20 years ago. The question has always been how to translate the theoretical returns cited by academics into workable strategies and client net-returns.

Putting theory into practice

As Blitz says, “it’s not a trivial question.” The returns reported in the academic literature from the momentum premium, for example, have tantalized investors for years. It was generally recognized, however, that the returns reported by academics would be hard to realize in practice, owing to high risk and transaction costs.

For this reason, when Robeco set up a research project to examine practical strategic allocations to factor premiums, a very conservative 1% annual return estimate was slotted in for the value, momentum and low-volatility premiums. But even with this conservative estimate, the results show that investors should allocate a sizable portion of their equity portfolio to factor premiums.

Two different allocations were tested. Portfolio 1 took the simpler route, investing 25% in the market-cap weighted index and 25% in each of the three factor premiums of value, momentum and low volatility.

Portfolio 2 looked to maximize risk-adjusted returns, as measured by the Sharpe ratio. Allocations ranging from 30 to 39% were divided between the three factor premiums, with no allocation to the market-cap index. Momentum had the largest share and low-volatility the smallest. The outcome of this research appears below.

“The results were close,” said Blitz describing the returns and characteristics of Portfolios 1 and 2. “Even with a simple approach to factor premium allocation, you manage to capture a lot of the smart beta. But an optimized approach is even better.” Diversifying across the three premiums, he says, also makes sense, because the correlations between the strategies are low.

The “optimized” portfolio resulted in a 28% improvement in the expected Sharpe ratio. The “simple” portfolio also captured a generous improvement in risk-adjusted returns, but was more tilted toward risk reduction than return enhancement.

The historical performance of the two portfolios produced even more dramatic results. The Sharpe ratio basically doubled for both of the factor premium portfolios in comparison with the market-cap-weighted index. This was possible because the actual returns from the historical premiums were much larger than the more conservative 1% per annum return used in the Robeco analysis.

What's new?

So what’s the big deal? Surely, value and momentum have been played before. Blitz is ready with an answer. “If you look at a traditional quant manager, the objective is to use the strengths of momentum and value investing to do a little bit better than the market. The traditional quant manager starts with the market and tries to get a little bit more return.

“What we are now seeing is the unconstrained application of systematic investing. Where you do not have the limits of a benchmark. That’s the difference.”

His research is not finished. “We are now looking at the optimized portfolio and exploring whether it is possible to do better using dynamic allocation. Value strategies, for example, can sometimes prefer low-risk and sometimes high-risk stocks. We want to know if it is possible to take advantage of the time-varying characteristics of factor premiums.”

Making factor-premium exposure a strategic decision

A second innovation that is part of the Norway model is moving the allocation to specific factor premiums to the level of a strategic investment decision. Blitz believes it needs to be a top-down call because of the long investment horizon of factor premiums.

“In the late 1990s, value investing massively underperformed versus the market. By the end of the decade, many people thought value investing was dead,” he says. “With manager selection based on relatively short investing periods, underperforming for three years or longer can end a career.

“Because these premiums are optimally realized with long investment horizons, allocating to them cannot be a short-term decision,” emphasizes Blitz. “All the asset owners who fired their value managers missed the enormous recovery in value stocks. The long horizon requires these allocations to be part of the strategic asset allocation process.”

His advice? “Invest in the factor premiums that you most believe in and make it an intentional, well-considered decision. That’s the best way to efficiently harvest the recognized superior returns of factor premiums.”

重要事項

当資料は情報提供を目的として、Robeco Institutional Asset Management B.V.が作成した英文資料、もしくはその英文資料をロベコ・ジャパン株式会社が翻訳したものです。資料中の個別の金融商品の売買の勧誘や推奨等を目的とするものではありません。記載された情報は十分信頼できるものであると考えておりますが、その正確性、完全性を保証するものではありません。意見や見通しはあくまで作成日における弊社の判断に基づくものであり、今後予告なしに変更されることがあります。運用状況、市場動向、意見等は、過去の一時点あるいは過去の一定期間についてのものであり、過去の実績は将来の運用成果を保証または示唆するものではありません。また、記載された投資方針・戦略等は全ての投資家の皆様に適合するとは限りません。当資料は法律、税務、会計面での助言の提供を意図するものではありません。

ご契約に際しては、必要に応じ専門家にご相談の上、最終的なご判断はお客様ご自身でなさるようお願い致します。

運用を行う資産の評価額は、組入有価証券等の価格、金融市場の相場や金利等の変動、及び組入有価証券の発行体の財務状況による信用力等の影響を受けて変動します。また、外貨建資産に投資する場合は為替変動の影響も受けます。運用によって生じた損益は、全て投資家の皆様に帰属します。したがって投資元本や一定の運用成果が保証されているものではなく、投資元本を上回る損失を被ることがあります。弊社が行う金融商品取引業に係る手数料または報酬は、締結される契約の種類や契約資産額により異なるため、当資料において記載せず別途ご提示させて頂く場合があります。具体的な手数料または報酬の金額・計算方法につきましては弊社担当者へお問合せください。

当資料及び記載されている情報、商品に関する権利は弊社に帰属します。したがって、弊社の書面による同意なくしてその全部もしくは一部を複製またはその他の方法で配布することはご遠慮ください。

商号等: ロベコ・ジャパン株式会社  金融商品取引業者 関東財務局長(金商)第2780号

加入協会: 一般社団法人 日本投資顧問業協会