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Factor investing long-only vs long-short bond

Автор: Fauran | Category: Betting odds on super bowl | Октябрь 2, 2012

factor investing long-only vs long-short bond

Market cap weighted indexes are also the only reference for a truly passive, macro consistent, buy and hold investment strategy. They aim to capture the long. Asness et al. () show that this is the case for short-term momentum and long-term reversal in equities, bonds, commodities and currencies. Furthermore. They analyzed five different long-only (investing in quintile 5) factor investment strategies (value, equity momentum, carry, quality, size). BEZ DEPOZYTU FOREX

However, a mathematical decomposition of the term premium, such as those performed in the studies of bond return predictability, suggests that it varies in sign and magnitude with changes in the slope of the term structure and changes in expectations about future interest rates. Historical evidence confirms this variation.

In addition to these two standard factors, recent literature has found patterns similar to those encountered in the equity class, such as momentum, value which refers to a long-term reversal effect and low risk. For commodities, one can obtain a first important factor by examining the determinants of the performance of passive strategies that roll over futures contracts. Research has shown that the long-term returns to such strategies are mainly driven by the roll returns, which are the positive or negative returns earned by replacing the nearest contract with the second nearest when the former matures.

Hence, the prevailing shape of the term structure of futures prices is an essential determinant of long-term returns. Specifically, backwardated futures markets for which the term structure is decreasing outperform contangoed futures markets for which it is increasing. This calls for the introduction of a term structure factor defined as the excess return of backwardated contracts over contangoed contracts. A related factor is the hedging pressure, which is suggested by the eponymous theory and indirectly captures the shape of the term structure.

A class-by-class study reveals that some patterns exist repeatedly in various classes. Asness et al. Furthermore, the single-class momentum factors are positively correlated, and the same goes for value factors. Taken together, these findings justify a new approach, which is the construction of multi-class value and momentum factors, obtained by aggregating the corresponding single-class components.

Empirical tests show that investable proxies for factors add value in single-class or multi-class portfolios when they are used as complements or substitutes for broad asset class indices. Moreover, in the equity class, a portfolio of factor indices dominates a portfolio of sector indices. Our empirical study focuses on the following factors, which have been selected because they have well-documented historical performance, are theoretically grounded and are widely accepted by practitioners: size, value, momentum and volatility for equities; term and credit for bonds; term structure and momentum for commodities.

In addition, we test multi-class value and momentum factors computed after the methodology of Asness et al. A first analysis of the descriptive statistics for these factors highlights a few simple but important facts. Each long-only factor outperforms its opposite tilt, in line with the theoretical and empirical literature, and outperforms the corresponding broad asset class index.

The benchmark universes that we consider contain the broad indices of one or more asset class es , which represent the market factors. For equities, we also test the benefits of using a standard sector classification, as an alternative to grouping securities according to their factor exposures. A first method for assessing the usefulness of factors is to compare the efficient frontiers in the benchmark universe and in an extended universe that also contains the factors.

Formal mean-variance spanning tests see Kan and Zhou reject the null hypothesis that the efficient frontier of the benchmark universe is included in that of the extended universe for all long-short factors and for most long-only factors. This is first evidence that the introduction of factors improves the efficient frontier, even though these tests rely on in-sample long-short efficient frontiers, so that they may give an overly optimistic picture. For this reason, we also conduct a series of out-of-sample tests, where we compare portfolios of traditional indices asset class indices or equity sectors and portfolios of factors, by imposing long-only constraints and by estimating parameters without a look-ahead bias.

The relative counterparts of these schemes, which focus on the tracking error as opposed to the absolute volatility, are also tested. Table 1 shows a sample of results for the equity class: for most weighting schemes, the four-factor portfolios have higher average return, higher Sharpe ratio and higher information ratio compared to their ten-sector equivalents.

In addition, they have a lower turnover. Again, both the average return and the Sharpe ratio are improved. As a conclusion, there exist theoretical arguments in favor of factor investing, i. Extensive empirical literature has documented a number of recurring patterns in the returns of equities, bonds and commodity futures, and provides investors with a rich list of insights regarding the choice of meaningful factors in each of these classes.

The identification of a parsimonious set of factors capturing the largest possible number of sources of risk is an ongoing task on the academic side. On the practical side, a challenge is to develop factor indices that aim to capture factor risk premia at reasonable implementation costs. He has graduate degrees in economics, statistics, and mathematics, as well as a PhD in finance from the University of California at Berkeley.

Lionel is a member of the editorial board of the Journal of Portfolio Management and the Journal of Alternative Investments. An expert in quantitative asset management and derivatives valuation, his work has been widely published in academic and practitioner journals. His research focus is on portfolio selection problems and continuous-time asset-pricing models. References Asness, C. Moskowitz, and L. Pedersen Value and Momentum Everywhere. Journal of Finance 68 3 , Cochrane, J.

Asset Pricing Theory. Princeton University Press. Revised Edition. Duffie, D. Dynamic Asset Pricing Theory. Princeton University Press, Princeton. Fama, E. Journal of Financial Economics 33 1 , Harvey, C. Long-short factor investing allows investors to play both sides: going long value, short growth; long high quality, short junk; and long winners, short losers.

When should investors consider one strategy versus the other? Relative return or absolute return? First, the most critical decision is what you want to achieve. Absolute return strategies are not compared to an asset-class benchmark and seek to generate a diversifying source of return. A long-only smart beta value strategy has historically outperformed the market over the long run.

But, holding a long-only value portfolio still retains a significant amount of broad equity exposure, even as it seeks to enhance returns relative to a market-capitalization index. A long-short value strategy simultaneously holds long positions in the cheapest stocks while shorting the most expensive stocks. This is done with the aim of removing aggregate market exposure.

The same strategy can be implemented across asset classes—going long cheap securities and short expensive securities in equities , fixed income and commodities. Although it is important to note that long-short investing comes with some significant risks and is not suitable for all investors. For fans only This part is for factor geeks only. It turns out that a long-only factor fund already incorporates a small amount of a long-short strategy!

For instance, a long-only fund with a value factor tilt holds a large amount of the market but is biased toward relatively cheap stocks. The latter is essentially an element of a long-short strategy. However, since the long-only smart beta fund can only maintain long positions, the long-short factor component is small relative to the market component. Consequently, it can only realize a small portion of the potential benefits of the long-short factor return.

A long-short fund seeks to remove the exposure to the market, or become market-neutral. The pure long-short factor return — highlighting the full differences between value and growth stocks — receives maximum weight. We estimate there could be meaningful benefits to some investors with this long-short approach. Other considerations Just as scuba diving requires specialized equipment—a Self-Contained Underwater Breathing Apparatus, or a tank of air, long-short factor investing requires special considerations.

Long-only value strategies do not, by construction, employ leverage. Long-short strategies use leverage with the aim of reducing correlation with market returns. Unconstrained long-short strategies seek to eliminate market exposure by targeting a particular level of risk. For example, a long-short strategy may short as many growth stocks and go long as many value stocks to obtain a target level of volatility.

Long-short investing requires state-of-the-art risk management.

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Factor investing long-only vs long-short bond Some investors might consider doing both: upgrading core index exposures with long-only smart beta ETFs and holding long-short factor investing funds in alternative allocations. This indicates that the classical diversification effect decreasing risk when increasing the number of assets might also apply to factor portfolios. Multi-factor strategies posted another strong quarter and are now enjoying their best month return since the dot-com bubble burst in Hjalmarsson also extents the approach of Asness et al. So as other long-short hedge funds let profits run on market trends and even leverage up to amplify them, equity market neutral funds are actively staunching returns and increasing the size of the opposite position.
Best value bitcoin miner Concluding remarks Factor performance was strong through the first half ofand, importantly, returns were positive across a broad range of premia—this has not been a narrow, single-factor story. More recently, the authors of [Blitz, Baltussen, van VlietWhen Equity Factors Drop Their Shorts ] have posted a study which suggests that an optimal implementation of market-neutral equity factors should not contain explicit short positions at all. Check our Alternative Data section Are you looking for strategies applicable in bear markets? Factors in aggregate continue to appear attractively priced Exhibit 3: Global equity multi-factor valuation spreads Source: J. We calculate the portfolio returns for the following month by multiplying the calculated weights with the component returns of the corresponding factor investing long-only vs long-short bond.
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factor investing long-only vs long-short bond

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