Published on Oct 28, 2016
Tim Bennett weighs up an investing style that claims to offer cheap access to proven investing expertise.
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welcome to this killing explains finance
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video this week a massive topic
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distilled into a short video I’m calling
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factor investing that doesn’t sound too
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tempting
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it’s simple access to some pretty smart
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ideas as it were
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what are the pros and cons so let’s
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imagine we could bottle warren buffett
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one of the world’s most successful
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investors take his magic formula put in
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a bottle and reproduce it through one
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simple fund purchase amazing or imagined
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we could take an active portfolio
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managers expertise and capture it for
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the price of a passive fund is it
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possible well factor investing fans
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would say yes it is now it goes by
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number of names the market is love this
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area is relatively new is developing
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fast so you will hear people talk about
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smart beta will talk about them talk
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about start investing you hear about
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them use the phrase alternative betta
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they all stack up to roughly the same
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thing
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this is a quest to tap into the
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fundamental factors that drive risk and
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return for equity investors bottle you
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like expertise call factors into one
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product was actually means what are you
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buying as a factor investor well the
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bare bones of it are you put your money
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into some sort of smart beta factor
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investing fun and it drugs off following
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probably a computer program and invest
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in a factor index to an index built on
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some of these factors probably not all
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of them and they do vary from fun
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defined so watch out my world warning at
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the end now what are these factors
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well msci one of the biggest index
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providers identified six you will hear
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opinion divided on this but the common
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ground is these are things that drive
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the risk-return relationship if an
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aftermarket and give you the John’s to
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find pockets of our performers
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potentially so one of them is value or
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cheapness now whole PhD have been
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written on this topic so I’m really
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summarizing all four walls here so
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cheapness is one factor cheap stocks
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have tended if you if you look back to
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outperform more expensive ones momentum
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strong momentum and i’ll explain that in
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a moment to why that
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Emily my offer a chance to make outside
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returns higher quality high quality
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stocks have tended to warren buffett to
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bed the low quality stocks is balance
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sheet financial strength if you like
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yield the opposite if you like of this
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one so high yields and lower values
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often go together another way of cutting
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the same cake you might argue volatility
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alone volatility normally why is that
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why is it that actually low quality
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stock sometimes outperform higher
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volatility riskier stocks and you got
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sighs there is some science or papers
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that say that smaller performance of
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companies overtime be that of larger
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companies and there’s a reason giant a
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moment so you’ve got six factors in BB
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follow msci’s framework and a paper
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written in 2012 suggest that Warren
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Buffett’s outperformance could be
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distilled down to three in particular
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value quality and volatility throws from
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the leverages gearing also debt and
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actually were you to strip out for
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berkshire hathaway’s portfolio the
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stocks that were following just those
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three main factors you can even
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outperform his incredible outperformance
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using if you like his own game now
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how’s it work essentially why you being
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rewarded for these factors i’ll just
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pick on three smaller firms are
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generally less liquid less heavily
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analyzed so perhaps there’s something in
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that that says investors should be
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rewarded for investing in smaller firms
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historically they often have been value
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stocks are cyclical require patience
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novel investors a patient may be there
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is actually additional reward we had for
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taking that kind of risk and if we
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looked at the momentum fact that some
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people would say well momentum last a
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lot longer than it should because
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institutional investors or her together
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you don’t necessarily have to join them
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and there is money to be made in
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understanding how that momentum
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principle works so you can see that each
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factor has a lot of science and an
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explanation . as to why it works and a
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fund may look at just three factors may
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local six maybe look at some different
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ones that i have mentioned there now
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what can go wrong
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surely is too good to be true Warren
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Buffett in about
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well basically there are a couple of
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things that can go wrong there are some
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more two big ones blackrock projected
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that this market could go from 290
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million now to 2.4 trillion by 2025 and
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as more and more people get on the
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bandwagon
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the danger is that the advantage of
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factor investing starts to evaporate
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secondly the market can remain rational
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longer than you remain solvent said
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Keynes and there’s an argument saying
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actually this is not a way to make money
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quickly you’ve got to have patience if
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you’re following some of these factors
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you go to see our entire business cycles
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potentially to make money so three tips
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if you’re thinking about getting into
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this part of the market three tips
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number one know what’s under the bonnet
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know which factors you’re following
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do you understand them do they make
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sense in combination and where are we in
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the cycle in terms of when you’re likely
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to get return
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secondly choose carefully there were
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lots of lots of funds coming in with
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similar products following several
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actors they all charge different amounts
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of money for it so screening is becoming
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increasingly important in this part the
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market and finally be patient this is
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not get rich quick investing all right
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and that will put some investors off
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which is probably why some of those
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factors exist in the first place they
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have it produced a vast topic to a very
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short video any questions
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the usual place and if funds is a topic
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you want to find out more about please
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go to kill explains . com and click on
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the funds tab
