Factor-based investments have come of age — at least by one measure.
In a signal that investors have begun to shift away from viewing the markets solely in terms of sectors — for example, energy or technology — or industries, one survey has found that these market participants have increasingly begun to use factors such as value and momentum to change up their portfolios.
In its sixth annual Global Factor Investing Study, asset management giant Invesco found that investors are using more complex factor approaches, with three-quarters of them using multifactor strategies and 30 percent using factors to dynamically add or reduce their exposures to premiums, such as low volatility. In fact, 41 percent of investors surveyed by Invesco told the firm that they expect to be more “dynamic” in the next two years.
“The big surprise is how many respondents came back and said they’re thinking about factors when allocating more tactically and making adjustments to their factor allocations in shorter [time periods],” said Mo Haghbin, chief commercial officer and COO of Invesco Investment Solutions. “Not every day, but on a 1-, 2-, or 3-year time horizon. This is in contrast to holding them constant forever.”
Haghbin said that Invesco had never seen that in the study before, but that it makes sense. “It’s an evolution of sectors and Morningstar style boxes,” he said. “Factors are a more precise way of targeting parts of the markets — a more precise way of thinking about sectors like technology.”
The COO said that another trend he believes is behind the results of the study is that investors are increasingly using factor strategies as a complement to traditional actively managed funds. “The times when those types of strategies outperform is quite different than fundamental active. One way to get multiple types of return drivers in is to put factors alongside stock-picking strategies, which are bottoms-up and more idiosyncratic.” Haghbin said that factors allow people to systematically look at value, or cheapness, based on different measures across thousands of securities. It’s more of the “true essence” of the style or characteristic.
Invesco also found that almost half of investors are making long-term portfolio decisions based on the expected performance of factors at different points in the economic cycle, such as when the economy is coming out of a recession. Thirty percent are using factors to be opportunistic and take advantage of market moves.
Another issue that popped up in Invesco’s survey is that the use of factors in fixed-income investments is on the rise. Even though there are fewer products and academic research studies on factors in fixed income, investors are increasingly gravitating to these tools, in part because of the lower returns and higher risks posed by corporate and government bonds. Factor-based investments, which are run by algorithms that seek out securities with different characteristics, can offer potentially higher returns because of their lower costs. They also can offer another source of diversification by targeting precise security characteristics.
Fifty-five percent of respondents in this year’s Invesco study said that they’re using fixed-income factor strategies, up from 40 percent last year. More than half are using so-called investment factors, such as value and quality, as well as macro factors such as the duration of a bond or inflation metrics.
Investors are also comparing factors and actively managed funds side by side, at least from a return perspective. “Respondents saw factor strategies as generally on par with active management in exploiting sources of alpha including risk premiums, behavioral rationales and market structures,” the report said. “[But] active is still seen as having some advantage over risk management.”
For the 2021 study, Invesco, through an external firm, interviewed 241 pension funds, insurers, sovereign investors, asset consultants, wealth managers, and private banks around the globe. In aggregate, the investors surveyed manage $31.1 trillion in assets.
