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Smart Beta – designing an optimal strategy

Smart Beta strategies are possibly the investment idea of the decade. The speed of adoption of risk factor models has been impressive, and many of the most-read papers on Savvy Investor are those which tackle issues surrounding smart beta and factor indexes.

When designing a smart beta strategy for your portfolio, there are many different questions to consider:


  • Which risk factors do I choose? How do I judge the robustness of individual factors?
  • How will I combine different factors to produce a diversified alpha source?
  • Should I try to time different factors according to market conditions?
  • How do I know if the “valuation” of risk factors are cheap or expensive? Does it matter?
  • Should we add factor tilts ourselves or should we use ready-made indexes and ETFs?

Our job at Savvy Investor is to enable you to answer these questions, by curating the best papers, and making them available to our members, free of charge. Here are some of the best papers uploaded to Savvy Investor so far this year:

Robustness of Smart Beta Strategies (EDHEC-Risk Institute)

This EDHEC paper explores the importance of smart beta strategies being robust, highlighting the different between a strategy that is "relatively robust" and one with "absolute robustness". The authors describe how the robustness of smart beta performance can be assessed and quantified, describing various approaches, which may be used to improve the robustness of smart beta strategies.

Multifactor Indexes: The Power of Tilting (FTSE Russell, 2016)

In recent years, institutional investors have become increasingly convinced of the benefits of factor investing, facilitated by the creation of a variety of indices, each focusing on a specific risk factor. The creation of these new indexes has allowed investors to access factor exposure efficiently and at low cost. However, as with any investment strategy, the return from a single-factor index will vary over time, often following different patterns. For instance, the quality risk factor tends to exhibit counter-cyclical performance, whereas the payoff from the value factor normally follows a more cyclical pattern. This paper examines alternative processes for building multifactor indexes, in order to benefit from a diversified exposure to the various source of factor return.

How Can "Smart Beta" Go Horribly Wrong? (Rob Arnott, 2016)

In this paper, Rob Arnott, 'Godfather of Smart Beta', warns investors to recognise that most of the “alpha” produced by smart beta is created by rising valuations. A smart beta crash, he argues, will be the result of valuation norms returning to the mean.

New Investment Paths with Smart Beta (PNC, 2016)

Smart beta strategies and products have grown considerably in recent years. This paper by PNC performs in-depth due diligence and research that are crucial when selecting any smart beta strategy and product to implement it. It focuses on smart beta strategies, implementation, factors used in smart beta strategies, etc.

Diversified or Concentrated Factor Tilts (EDHEC, 2016)

This article compares two approaches to single-factor index design: concentrated and diversified indices, and emphasises several issues with highly concentrated portfolios.

The Persistence of Smart Beta (S&P Dow Jones Indices, 2015)

As Smart Beta and factor strategies become increasingly popular, will this impact their performance? Certainly, persistent outperformance from systematic strategies seems to run contrary to efficient markets theory. In this 18 page document, the authors from S&P Dow Jones Indices examine the arguments.

Choosing a 'Smart Beta' Factor - Not Which, But When (Northern Trust, 2015)

Recent research shows that rather than asking about which factor should be chosen, investors should ask about when they should favor each factor in order to reap the benefits of factor-based investing.