However, it does highlight the need to keep an eye on sector exposures as factor products are incorporated into investor portfolios.

Our U.S. Factor Defensive Equity strategy holds all five of the factors discussed in inverse proportion to their volatility.  The weights in our portfolio as of 1/31/15 are shown below.

Dividend GrowthLow VolatilityMomentumSmall-CapValue
22%24%19%19%16%

By building a diversified factor portfolio we are able to increase sector diversification relative to the broad market.

One final point to keep in mind is that by definition factor-based portfolios and indices will rebalance more often than a market-cap weighted benchmark as the characteristics of the stocks in the overall universe change.  Naturally, these rebalances mean that the sector allocations will change over time.  The velocity of these changes will vary on a factor-by-factor basis.  More frequent changes will be seen in factors that have a price component, including value and momentum.

This article was written by Newfound Research Managing Director Justin Sibears.

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