Factor leadership is akin to sector leadership in that the five primary investment factors — low volatility, momentum, quality, small size, and value — often rotate in terms of year-to-year leadership.
That can make life difficult for novice, factor-enthused investors because each of those factors holds its own source of appeal. Multifactor exchange traded funds include funds like the Invesco Russell 1000 Dynamic Multifactor ETF (OMFL). The $4.16 billion OMFL follows the Russell 1000 Invesco Dynamic Multifactor Index — a multifactor spin on the widely observed Russell 1000 Index.
Among the densely populated universe of multifactor ETFs, OMFL stands out due to its unique methodology. In simple terms, OMFL’s underlying benchmarks takes the Russell 1000 member firms and reweights them based on economic conditions. From there, the stocks receive scores based one of the five aforementioned factors.
Due to the spate of economic that arrives on a regular basis, including employment and inflation figures, OMFL and its index rebalance monthly, indicating an element of nimbleness not often associated with traditional passive funds.
OMFL Relevant Today
One of the advantages of OMFL is factor diversification. Said another way, while the five primary investment factors have their own merits, investors aren’t always rewarded for focusing on each in individual fashion.
“Greater volatility is one form of risk that accompanies some of these risk factors, and many come with behavioral risks,” noted Morningstar analyst Bryan Armour. “For example, investors who put all their eggs in the value basket have occasionally experienced long periods of underperformance. The same could be said for strategies that target the small-size, quality, and momentum factors. The low-volatility factor frequently runs into bouts of poor performance. Many low-volatility strategies were among the worst performers in 2020, failing to soften the market drawdown and then lagging the market on the rebound.”
Research indicates that dating back to 2015, a multifactor ETF outperformed single-factor funds focusing on momentum, size, and value. Of course, past performance isn’t a guarantee of future returns, but that track record underscores the validity of the OMFL approach. Bottom line: OMFL’s diverse approach could be attractive to long-term investors.
“Diversification is the only free lunch in investing, as Harry Markowitz would say. Multifactor funds balance multiple factor exposures in one portfolio, benefiting from each in the long run while avoiding long droughts customary to single factors,” concluded Armour. “This helps smooth returns and improve investor confidence to stay invested and avoid selling at the bottom.”
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