Factors the same in credit and equities

Robeco will launch the world’s first multi-factor credit fund, after academic research by its quantitative research team reveals that size, low-risk, value and momentum factors have economically meaningful and statistically significant risk-adjusted returns in the corporate bond market. David Blitz, co-head of quantitative strategies at Robeco in Rotterdam, tells Amanda White why an active approach makes sense in credit.

Robeco, which manages €1.2 billion in equity factor portfolios and a total of €25 billion in quant equities strategies, has a history of being a first mover, with its low-volatility equities, low volatility credit and emerging market quant funds all first to market.

The manager has €3 billion in its low-volatility credit fund.

David Blitz, co-head of quantitative strategies at Robeco in Rotterdam, says all of the talk of factor portfolios is in equities, but research at Robeco has revealed the same factors apply to credit.

Robeco takes an evidence-based approach to investing, with its strategies and products firmly centred on academic evidence. In equities it believes that only value, momentum and low-volatility have enough robust evidence to be proven as investable factors. Others such as small-cap or quality are not yet proven, although Robeco is exploring the academic evidence in quality as a factor to add to the mix.

Its multi-factor equities fund is equally weighted among the factors.

Blitz says Robeco supports the work of Andrew Ang, professor of finance at Columbia University, who was one of the first academics to “say out loud” that active manager performance comes from factors.

“Instead of having factor exposures as a result of manager selection, investors should turn it around and choose the factor exposure first and then the manager,” Blitz says.

The credit factor research by Robeco’s Patrick Houweling and Jeroen van Zundert uses monthly constituent data of the Barclays US Corporate Investment Grade index and the Barclays US Corporate High Yield index from January 1994 to December 2013. In order to evaluate the factor portfolios they use the excess return of a corporate bond versus duration-matched Treasuries.

The research finds that factor portfolios in the corporate bond market earn a premium beyond the default premium and that these premiums are not a compensation for risk. It also shows that factor premiums are still present after accounting for transaction costs.

Blitz says a multi-factor credit fund is an extension of equities but acknowledged the Robeco fund was a “blue ocean strategy” because there no benchmarks and no products that have been launched in credit yet.

Blitz says that active factor managers should be measured against broad benchmarks but also compared to the factor benchmark, or what he calls the “cheap alternative”.

However he also cautions against blindly accepting indices, as he sees them as quite arbitrary.

“There is a research paper that shows if you rebalanced the RAFI in August not February of 2009 there would be a great difference in returns, and in fact there would be no outperformance in 2009. But the index rebalanced in February which meant a 10 per cent outperformance, it was lucky timing,” he says. “Investors have to be aware that indices have the same element of chance.”

“Our proposition is that indices are good but we also see their shortcomings, for example low volatility index valuation is on the high side, whereas momentum is weak if you buy the index. We are more selective.”

Blitz says it adopts a different approach with each client, depending on their starting point.

“The client’s beliefs are the starting point. For example in the Middle East they don’t like low volatility, in Netherlands low volatility is popular because of the liabilities.”