When entering the site and if cookies are prevented from being saved, a message must be displayed
in a popup message box informing the user that their local browser settings are preventing
cookies from being saved and that cookies are required for the site to work. Exact text
to be provided for UAT. On OK click of the message, the user should be redirected to
the global landing page (currently ssga.com).
Many multi-factor smart beta funds have been critiqued over the last year.
In the last decade, Value has been a commonly targeted factor in these strategies and has severely lagged the broader market.
So why has Value underperformed and why is it important to maintain a multi-factor approach?
Factor investing is an investment approach that involves targeting specific drivers of return across asset classes. Investing in factors can help improve portfolio outcomes, reduce volatility and enhance overall portfolio diversification. When we talk about factors in a smart beta context, we are generally talking about style factors as opposed to macro factors. The typical style factors we find quoted in academic literature are:
Value - Value stocks are companies with attractive fundamental ratios such as Price/Book or Price/Earnings. These cheaper stocks are perceived as distressed or susceptible to macro shocks.
Minimum Volatility - Lower volatility stocks tend to generate a higher risk-adjusted return than high volatility stocks.
Quality - Quality companies are those with high and stable profitability, low earnings growth and low leverage. Healthy companies tend to outperform less healthy companies.
Size - Stocks of small companies tend to earn greater returns than stocks of larger companies. Small cap stocks are perceived to have less stability, liquidity and cash flows.
Momentum - Stocks with good recent performance tend to continue earning greater returns in the near term compared to stocks with weak recent performance. Succumbing to bandwagon effect, anchoring bias and preference for past winners.
The appeal of factor investing is that factors have been shown to outperform the broad market over the long term.
Source: Bloomberg Finance L.P., MSCI, Indexes are MSCI Factor indices in AUD.
Time horizon is an important consideration for factor investing, as longer time frames increase investors ability to harvest factor premiums when compared to shorter periods of time, where factors may experience periods of underperformance.
Getting to Grips with Values Underperformance
One factor that has come under more scrutiny than others has been Value. In particular, over the last two years, the underperformance of Value has garnered more attention. Over this period Value has significantly underperformed the broader index.
Source: Bloomberg Finance L.P., MSCI, MSCI Value in AUD.
Year to date, the MSCI Value Index has underperformed the MSCI World Index by almost 15%. However the underperformance of Value can be attributed to two key themes.
The abundance of quantitative easing in the financial system, exacerbated by COVID-19.
The rise in prominence of technology related stocks. These include not just pure technology stocks such as IBM or Apple but also companies that leverage technology in their business model. An example would be Amazon which is a technology based consumer discretionary company.
A Broad Collapse but Narrow Recovery
As we think about 2020, the first quarter sell off for the stock market was broad but the recovery has been relatively narrow, and is driven by the information technology sector, the consumer discretionary sector and the consumer services sectors. These three sectors being categories of the FAANGs (Facebook, Amazon, Apple, Netflix and Google) – which make up over 10% of the MSCI World Index by themselves. These sectors and stocks have driven the performance of the Growth and Quality factors and resulted in the relative underperformance of Value.
When we compare MSCI World Value Index sector weights to that of the MSCI World Index, the Value index has large underweights to all these sectors and currently does not have any exposure to the FAANGs.
The FAANGs in particular reflect “expensive” companies which have meaningfully outperformed Value stocks – companies where the stock price is lower than the suggested intrinsic value.
Some Positive Signs for Value
Despite this, over the last two years there have also been signs of a potential reversal in Value’s fortunes. The fourth quarter of 2019 was such a period where Quality and Value both outperformed the broad market. At the time there was a lot of talk about the recovery in Value but that was short lived as COVID-19 took hold through the start of 2020. COVID-19 which halted the recovery in Value may also provide the platform for its resurgence. That’s because Value tends to do well when we are experiencing improving economic growth.
While the world looks to manage through a COVID-19 induced recession, the post recessionary environment should see a strong rebound in economic growth. This could also see a change in dynamics in terms of factor performance, including the performance of Value.
However the lesson we can take away from this is one well known in the investing world:
“Don’t put all your eggs in one basket.”
When comparing with the MSCI World Index, year to date we can see that Value has underperformed, Minimum Volatility is broadly in line and Quality has been outperforming through the recovery.
Source: Bloomberg Finance L.P., MSCI, Indexes are in AUD as of 30th September 2020.
Going forward we could see rapid changes in factor performance, potentially in line with a post COVID-19 recovery phase. But with ongoing uncertainty created by COVID-19, timing factors will be incredibly difficult, rather a multi-factor approach may serve investors well. As can be seen from this year, exposure to only Value would have resulted in significant underperformance relative to the MSCI World Index. However a multi-factor approach that also included Quality alongside Value would have fared much better.
Source: Bloomberg Finance L.P., MSCI, Indexes are in AUD, as of 30 September 2020
Factors for the long haul
Factor investing shouldn’t be viewed through a short-term lens. And while factor investors, in particular Value investors - may feel penalised, going forward they could be realising factor premiums rather than the penalties. Time frames and horizons are always a key element of investing and this holds for factor investing. Factor investing is a long-haul journey that seeks to capture a return premium. Given factor performance is cyclical, you may be better maintaining a diversified factor exposure and looking to harvest those premiums over the long term.
This document contains certain statements that may be deemed forward-looking statements. Please note that any such statements are not guarantees of any future performance and actual results or developments may differ materially from those projected. All information is from SSGA unless otherwise noted and has been obtained from sources believed to be reliable, but its accuracy is not guaranteed. There is no representation or warranty as to the current accuracy, reliability or completeness of, nor liability for, decisions based on such information and it should not be relied on as such. A Smart Beta strategy does not seek to replicate the performance of a specified cap-weighted index and as such may underperform such an index. The factors to which a Smart Beta strategy seeks to deliver exposure may themselves undergo cyclical performance. As such, a Smart Beta strategy may underperform the market or other Smart Beta strategies exposed to similar or other targeted factors. In fact, we believe that factor premia accrue over the long term (5-10 years), and investors must keep that long time horizon in mind when investing. The value style of investing that emphasizes undervalued companies with characteristics for improved valuations, may never improve and may actually have lower returns than other styles of investing or the overall stock market. Investments in small-sized companies may involve greater risks than in those of larger, better known companies. Past performance is not a guarantee of future results.
Issued by State Street Global Advisors, Australia Services Limited (AFSL Number 274900, ABN 16 108 671 441) ("SSGA, ASL"). Registered office: Level 14, 420 George Street, Sydney, NSW 2000, Australia · Telephone: 612 9240-7600 · Web: www.ssga.com.
State Street Global Advisors, Australia Services Limited (ASL) (AFSL Number 274900, ABN 16 108 671 441) is the issuer of interests and the Responsible Entity for the ETFs which are Australian registered managed investment schemes quoted on the AQUA market of the ASX or listed on the ASX. This material is general information only and does not take into account your individual objectives, financial situation or needs and you should consider whether it is appropriate for you. You should seek professional advice and consider the product disclosure document, available at www.ssga.com/au, before deciding whether to acquire or continue to hold units in an ETF. This material should not be considered a solicitation to buy or sell a security. ETFs trade like stocks, are subject to investment risk, fluctuate in market value and may trade at prices above or below the ETF's net asset value. ETFs typically invest by sampling an index, holding a range of securities that, in the aggregate, approximates the full index in terms of key risk factors and other characteristics. This may cause the fund to experience tracking errors relative to performance of the index. Investing involves risk including the risk of loss of principal. Diversification does not ensure a profit or guarantee against loss. Holdings and sectors shown are as of the date indicated and are subject to change. This information should not be considered a recommendation to invest in a particular sector or to buy or sell any security shown. It is not known whether the sectors or securities shown will be profitable in the future. Sector ETF products are also subject to sector risk and non-diversification risk, which generally results in greater price fluctuations than the overall market. SPDR and Standard & Poor's® S&P® indices are trademarks of Standard & Poor's Financial Services LLC and have been licensed for use by State Street Corporation. The Dow Jones Global Select Real Estate Securities Index is a product of S&P Dow Jones Indices LLC and has been licensed for use by State Street Global Advisors, ASL. MSCI indices, the property of MSCI, Inc. ("MSCI"), and ASX®, a registered trademark of ASX Operations Pty Limited, have been licensed for use by State Street Global Advisors, ASL. SPDR products are not sponsored, endorsed, sold or promoted by any of these entities and none of these entities bear any liability with respect to the ETFs or make any representation, warranty or condition regarding the advisability of buying, selling or holding units in the ETFs issued by State Street Global Advisors, ASL. State Street Global Advisors Trust Company (ARBN 619 273 817) is the trustee of, and the issuer of interests in, the SPDR® S&P 500® ETF Trust, an ETF registered with the United States Securities and Exchange Commission under the Investment Company Act of 1940 and principally listed and traded on NYSE Arca, Inc. under the symbol "SPY". State Street Global Advisors, ASL is the AQUA Product Issuer for the CHESS Depositary Interests (or "CDIs") which have been created over units in SPY and are quoted on the AQUA market of the ASX. The whole or any part of this work may not be reproduced, copied or transmitted or any of its contents disclosed to third parties without State Street Global Advisors, ASL's express written consent.