Scientific Beta

A recent Practical Applications report by Institutional Investor Journals examines an article on "Diversified or Concentrated Factor Tilts?" by ERI Scientific Beta's research team that was published in the Winter 2016 issue of The Journal of Portfolio Management. In the report, Frédéric Ducoulombier, Corporate Director of ERI Scientific Beta, explains the findings of the article which investigated whether the academic literature on factor investing provides support for concentrated approaches and evaluated the benefits and costs of diversified versus concentrated factor tilts.

A recent Practical Applications report by Howard Moore of Institutional Investor Journals examines an article on "Diversified or Concentrated Factor Tilts?" by ERI Scientific Beta's research team that was published in the Winter 2016 issue of The Journal of Portfolio Management.

In the report, Frédéric Ducoulombier, Corporate Director of ERI Scientific Beta, explains the findings of the article which investigated whether the academic literature on factor investing provides support for concentrated approaches and evaluated the benefits and costs of diversified versus concentrated factor tilts, co-authored with Noël Amenc, CEO of ERI Scientific Beta and Professor of Finance at EDHEC-Risk Institute, Felix Goltz, Research Director at ERI Scientific Beta and Head of Applied Research at EDHEC-Risk Institute, Ashish Lodh, Deputy Research Director at ERI Scientific Beta, and Sivagaminathan Sivasubramanian, Quantitative Research Analyst at ERI Scientific Beta.

The authors found limited support for concentrated portfolios in the factor-investing literature and instead point to strong theoretical arguments justifying that factor-tilted portfolios should be mean-variance efficient. Empirically, they document that for both broad and narrow factor tilting, based on selections of stocks that have high factor scores, diversified portfolios deliver higher returns and risk-adjusted returns and have greater probabilities of outperforming the broad market than do the non-diversified portfolios. In addition using a narrow factor-tilting approach produces higher gross returns, it also increases volatility and tracking error, resulting in only marginal gains in risk-adjusted performance. This is even before the costs of greatly heightened turnover and reduced liquidity associated with narrower stock selections. Furthermore, the benefits of diversifying broad factor-tilted portfolios far outweigh those of narrowing them while remaining cap weighted. Doing so produces much better performance and risk-adjusted performance in the short and the long terms while only marginally affecting turnover.

Practical Applications reports consist of an easily comprehensible overview of the source article, a concise explanation of who will benefit from the research, and clear recommendations on how to apply the findings. With the growing amount of literature available in the industry, researchers and portfolio managers face the daunting challenge of prioritising what they should read. Practical Applications, focusing on portfolio management, takes Institutional Investor Journals research articles a step further. These reports dissect the scholarly research to uncover actionable items that may not be easily extracted from a highly technical article. Practical Applications allows readers to keep up with current thought leadership in institutional investing strategies and enables them to target which articles to explore in further detail. Experienced financial journalists conduct exclusive interviews with the authors to obtain their views on how practitioners can utilise the research findings.