Index Fund Management (eBook)

Acknowledgements 6
Contents 8
List of Figures 13
List of Tables 20
1: Introduction: What We Talk About in Factor Investing 21
Part I 27
2: Stepping Up to Factor Investing 28
2.1 History of Significant Advances in Indices and Indexed Funds 31
2.2 Growth and Adaptation of Factor Strategies 33
2.3 The Taxonomy of Risks and Returns 35
2.4 Factor Investing Versus Traditional Index and Active Fund Management 37
2.5 The Misconception of Factor Investing in the Press 38
2.6 Consideration When Looking at Factor Investing 39
2.7 Concluding Remarks 40
3: Architecture and Art of Indexation 42
3.1 Why Index Architecture Matters 43
3.2 Representativeness of the Index Strategy 45
3.3 Modularity of an Index 46
3.4 Availability: The Amount of Stocks and Bonds Outstanding 48
3.5 Stock and Bond Weightings 49
3.5.1 Market Value Weighting 51
3.5.2 Equal Weighting 52
3.5.3 Price Weighting 53
3.5.4 Outcome-Oriented Weighting: Tilting and Optimisation 53
3.6 Index Maintenance and Operations 54
3.7 Replication and Management of Index Funds 56
3.7.1 Trading Strategies 57
3.7.2 Securities Lending 58
3.7.3 Cash Management 59
3.8 Crowding Risk of Index Funds 59
3.9 The Capacity of Index Funds 61
3.10 Concluding Remarks 62
Part II 63
4: Equity Factor Investing: Value Stocks 64
4.1 Schools of Value Investing 66
4.2 The Value and Growth Debate 68
4.3 Intrinsic Value 71
4.4 Systematic Screening Approaches 73
4.4.1 Benjamin Graham Screen 75
4.4.2 Price-to-Book (P/B) Screen 77
4.4.3 Price-to-Earnings (P/E) Screen 79
4.4.4 Price-to-Sales (P/S) Ratio 81
4.4.5 Comparison and Combination of Screens 82
4.4.6 What Constitutes Good Screen Criteria? 85
4.5 Behavioural Drivers of Value Factor 86
4.6 Market Structure and Reward for Risk 88
4.7 Considerations for Value Investing 89
4.8 Concluding Remarks 91
5: Equity Factor Investing: Quality 93
5.1 Investment Horizon for Quality 95
5.2 Quality Factor Screens 96
5.2.1 Profitability Screen 97
5.2.2 Asset Growth and Investment Screen 99
5.2.3 Leverage Screen 101
5.2.4 Earning Accruals Screen 103
5.2.5 Corporate Governance Screen 104
5.2.6 Combined Quality Screens Among Practitioners 106
5.3 Drivers of the Quality Premium 109
5.4 Quality and Valuation of Stocks 111
5.5 Consideration for Quality Strategies 112
5.6 Concluding Remarks 114
6: Equity Factor Investing: Low Risk 115
6.1 Why Considering Low Volatility Factor Investing? 117
6.2 Low Risk Factor Approaches and Construction 118
6.3 Common Low Volatility Factor Indices 121
6.4 Behavioural Drivers of the Factor Premium 123
6.5 Market Structures Driving the Factor Premium 125
6.6 Considerations When Implementing Low Volatility Strategies 126
6.7 Low Volatility in Asset Allocation 130
6.8 Concluding Remarks 131
7: Equity Factor Investing: Momentum 132
7.1 Evolution of Momentum Investing 133
7.2 Rules-Based Momentum Index Strategies 136
7.2.1 Cross-sectional Momentum Strategies 136
7.2.2 Time Series Momentum Strategies 138
7.3 Market-Based Index Strategies 140
7.4 Behavioural Drivers of Momentum Premium 142
7.4.1 Herding Behaviour 142
7.4.2 Representativeness and Confirmation Bias 144
7.5 The Reward for Risk and Market Structures 145
7.6 Consideration for Momentum Strategies 147
7.7 Concluding Remarks 148
8: Equity Factor Investing: Size 149
8.1 Defining the Size Factor 151
8.2 Construction of Size-Based Index Strategy 152
8.3 The Existence of the Size Premium 153
8.4 Risk-Based Explanation of the Size Premium 155
8.5 Non-Risk Based Explanation 156
8.5.1 The January Effect 157
8.5.2 Inefficient Pricing 157
8.5.3 Attention, Coverage and Transparency 158
8.5.4 Behavioural Drivers of the Size Factor 159
8.6 Criticism of the Size Premium 160
8.7 Considerations When Investing in Small Size 161
8.8 Concluding Remarks 163
9: Equity Multi-Factor Investing 164
9.1 Factor Cyclicality and Diversification 166
9.2 Blending the Factors into Multi-Factor Strategy 168
9.2.1 The Top-Down Approach 168
9.2.2 The Bottom-Up Approach 170
9.3 So Which Approach Is Best? 172
9.4 Multi-Factor Indices in the Market 173
9.5 Timing the Factors 173
9.5.1 Factor Sensitivities and Factor Dynamics 175
9.6 Considerations When Timing the Factors 177
9.7 Multi-Factor Portfolio Analysis 178
9.7.1 Portfolio Return-Based Style Analysis 179
9.7.2 Security-Based Style Analysis 181
9.8 Concluding Remarks 181
Part III 183
10: Fixed Income Factor Investing 184
10.1 Why Factor Investing in Fixed Income? 185
10.2 Drivers of Bond Risk and Return 186
10.3 Misconception When Thinking of Bond Factors 189
10.4 What Are the Factors in Bonds? 191
10.5 Government Bond Style Factors 192
10.5.1 Size Factor for Government Bonds 193
10.5.2 Quality Factor for Government Bonds 196
10.5.3 Value Factor for Government Bonds 199
10.5.4 Momentum Factor for Government Bonds 200
10.5.5 Low Volatility Factor for Government Bonds 201
10.6 Corporate Bond Style Factors 202
10.6.1 Quality Factor for Corporate Bonds 203
10.6.2 Value Factor for Corporate Bonds 207
10.6.3 Momentum Factor for Corporate Bonds 210
10.6.4 Size Factor in Corporate Bonds 211
10.6.5 Low Volatility Factor for Corporate Bonds 212
10.7 Multi-Factors Strategies For Bonds 213
10.8 Considerations When Building Bond Factors 213
10.9 Concluding Remarks 214
11: Multi-Asset: Alternative Risk Premia 216
11.1 Why Are We Thinking of ARP? 218
11.2 Fund Manager Types in ARP 220
11.3 Taxonomy of ARP Strategies 221
11.4 Carry Premia Across Assets 224
11.4.1 Currency Carry Premium 224
11.4.2 The Commodity Carry Premium 227
11.4.3 The Bond Carry Premium 230
11.4.4 Other Carry Premia 232
11.5 Value ARP Strategies 233
11.5.1 Currency Value Premium 233
11.5.2 Commodities Value Premium 235
11.5.3 Fixed Income and Equities ARP Value Premia 237
11.6 Momentum and Trend-Following Strategies 238
11.7 Portfolio Construction of ARP Strategies 240
11.8 Access to ARP Strategies 242
11.9 A Consideration When Selecting ARP 243
11.10 Concluding Remarks 244
Bibliography 246
Index 251