By Victor Haghani and James White 1
“Factor investing, or Smart Beta as it’s known in long-only form, has become one of the most popular forms of investing, straddling the active-passive divide. The authors evaluate theoretical and empirically-based arguments for factor investing, concluding that while many of the arguments, particularly the theoretical ones, are sound, there are still reasons for considerable skepticism. They describe the trajectory of the factor investing paradigm, from the cradle of the efficient markets school to its championing by some of the world’s most successful investment management firms. While factor investing is typically discussed using the language and machinery of efficient-markets models, investors are primarily expecting anomalous excess returns more consistent with behavioral explanations and other market inefficiencies. For factors with plausible risk-based explanations, the authors conclude that even in the presence of significant factor premia, the market portfolio is still likely to be optimal for most investors. The authors also provide simple logical arguments to assess claims such as that factor investing delivers gross investment returns similar to traditional active managers, but with lower fees.”
Read the full article in The Journal of Portfolio Management here.