Institutional investors are increasingly using factor-based strategies, with their motivation shifting from risk management to improving performance, according to a survey sponsored by BlackRock.
The survey was of 200 executives from institutional investment organisations in 20 countries across the Americas, the EMEA and Asia Pacific, with more than $5.5trn (€4.8trn) in assets under management.
According to BlackRock, the survey found that factor use was widespread and on the rise.
More than 85% of respondents employ factors in some part of the investment process, and nearly 66% of the organisations surveyed said they had increased their usage of factors over the past three years.
Sixty per cent of respondents said they planned to increase their use of factors over the next three years.
The desire to improve returns was the most important motivation for increasing factor use, said BlackRock.
For new factor users, the top motivation is to better understand risk and return.
The same percentage said they achieved this goal, while 59% said they increased diversification, and similar proportions said they lowered risk (56%) and increased returns (55%).
More than half (53%) of the institutions surveyed use investment strategies targeting one or more factors, according to BlackRock, with value being the most commonly targeted style factor and inflation the most commonly used macro factor.
Equity factor strategies – smart beta, for example – are most widespread, used by 68% of investors, but 57% of respondents investing in factors also use more advanced long/short multi-asset strategies.
More than two-thirds of respondents seeking to increase factor use over the next three years will be working on their risk-management systems, while more than half expect to seek advice from asset managers, and 37% expect to hire additional staff.
Half of those increasing said they would make an initial allocation to an investment strategy to monitor performance, according to BlackRock.
Andy Tunningley, head of strategic clients at BlackRock’s UK institutional business, said the “unexpected correlations” of asset performance during the financial crisis spurred investors to better understand underlying risks, and that this had piqued interest in factor strategies.
“Following an initial focus on risk management, investors increasingly believe factor strategies can drive enhanced performance,” he said.
The results of BlackRock’s survey, conducted by the Economist Intelligence Unit, come after ERI Scientific Beta, a provider of smart beta indices, late last month published research, “Smart beta is not monkey business”, rejecting claims the results of smart beta strategies could be generated by any random selection of stocks.
ERI Scientific Beta, part of EDHEC-Risk Institute, said it ran tests that “directly invalidate” these claims and that “many smart beta strategies display exposure to factors other than value or small cap, as well as pronounced differences in factor exposures across different strategies”.
Factor investing is based on the idea that the risks and returns of all investments can be linked back to a common set of underlying factors.
These can be what are referred to as style factors, such as size, momentum, quality and value – or macro-economic factors, such as growth, inflation and interest rates.
Smart beta is an alternative term and captures the idea that investment strategies based on factors such as these, rather than market capitalisation, can add value.
See April’s IPE magazine for a special report on factor investing
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