Smart Beta is a growing strategy that according to Sara Shores, CFA, Global Head of Smart Beta at BlackRock, has captured investor’s attention and interest for three main reasons: returns, diversification and fees. In an interview with Funds Society, she also explains how they do factor investing, a strategy that accounts for over 170 billion of their assets under management and expects double digit growth.
Shores explains that the main reason for the strategy’s popularity is that the return environment has been getting more and more challenging with equity returns in the 5% range, as expected by BlackRock’s capital markets assumptions for the next five years which “is not enough for most investors to meet their retirement goals.” So by focusing on factors, the broad, historically persistent drivers of return, and doing so with Smart Beta vehicles, one has the potential of incremental returns, with a significant lower fee than traditional active management.
Regarding diversification, which has been proven elusive via traditional allocations, she mentions that most the factors they look at in equities are also present in fixed income, currencies, commodities “and that then opens up a whole new range of diversification because momentum in equity is not particularly correlated with momentum in commodities or currencies, so by investing across asset classes we can really take full advantage of the opportunity set for factor investing.” So despite having equity factor investing as the largest Smart Beta asset class and continue to “see a tremendous growth in equities there are great opportunities in other asset classes.”
The BlackRock executive believes that there are five persistently rewarding factors in equity markets are: Value, Quality, Size, Low Vol, and Momentum and while “over the long run I love all my children equally and I love all my factors equally but over the short run your son or your daughter might be having a better day, and it is the same for factors, so one of the things the team has been working on is to see what factors are better poised based on the current market.” They are overweight in US equity markets with Momentum, and just recently moved to an overweight in minimum volatility given US growth is strong but grow at a modestly slower pace than in recent months, which could translate into investor caution.
About their operation, she mentions that at BlackRock they want to marry quantitative research with a really strong economic understanding on what drives markets and what drives risk and return. “Humans are made better by data, data is made better by humans, we like data and models but we also want to rely on our intuition. Our philosophy on factor investing is to always start with the economic grounding of asking why, what is the economic justification that suggest a factor will continue to earn a return in the future and only with that economic just we go and look at the date to see if it actually works over time over a wide range of assets and geographies, so we want to inject the human judgment as well.”
With over 170 billion in AUM for their factor-based strategies, both the index driven smart beta strategies and the non index ‘enhanced’ factor strategies, they are always mindful of liquidity and capacity to make sure that any of their strategies don’t move the market in an unexpected way. Most of their assets are in their smart beta ETF type strategies, whose markets are so large and liquid that liquidity is generally not a problem. However, in their enhanced strategies, where they have 12.5 billion in AUM they are “very mindful of liquidity, our strategies are not of a size were we are worried of moving markets yet, but we do think of how big can we be, we manage that by making sure we don’t have too much risk deployed in any individual factor/instrument to make sure we can trade the portfolio with a reasonable liquidity should something change unexpectedly. So we keep a very watchful eye on that capacity question.” She concludes.
Por Funds Society, Madrid