Arnott on Smart Beta: A Better Way Forward with Multi-Factor

As investors seek alternatives to traditional active equity strategies, how can they address the need for alpha? Many investors seeking higher returns at lower costs have turned to smart beta. While this creates opportunity, the variety of smart beta and factor-based products can create confusion and risk for investors.

On the upcoming webcast, Arnott on Smart Beta: A Better Way Forward with Multi-Factor, Robert Arnott, Founder and Chairman of Research Affiliates, and Raji O. Manasseh, Equity Strategist at PIMCO, will touch upon the challenges faced by equity investors and the role PIMCO’s RAFI Dynamic Multi-Factor ETFs can play in seeking enhanced return and diversification potential.

Specifically, the PIMCO RAFI Dynamic Multi-Factor U.S. Equity ETF (NYSEArca: MFUS), PIMCO RAFI Dynamic Multi-Factor International Equity ETF (NYSEArca: MFDX) and PIMCO RAFI Dynamic Multi-Factor Emerging Markets Equity ETF (NYSEArca: MFEM) dynamically adjust their factor allocations in an ever-changing market environment.

Focusing on Five Equity Factors

The new PIMCO RAFI ETFs’ implement screens for five equity factors, including value, quality, low volatility, momentum and size.

Additionally, Research Affiliates Fundamental Index, like its name implies, is known for its fundamental indexing methodology. The RAFI Dynamic Multi-Factor ETFs will try to underweight the factors that are expensive compared to historical norms and emphasize those that are undervalued, which could create a buy-low, sell-high rules-based discipline. The new PIMCO RAFI ETFs also implements fundamental indexing, which weights stocks by economic size, rather than by market capitalization, skewing holdings toward components already trading at high valuations.

Specifically, securities are then determined by selecting companies based on fundamental weight, calculated using four accounting measures from company financial statements: de-levered sales, calculated as company sales averaged over the past five years multiplied by the ratio of average equity to average assets; cash flow, taken as the company operating cash flow averaged over the past five years; dividend plus buybacks, calculated using the average dividends paid and share buybacks over the past five years; and book value, taken as the most recent company book value.

The dynamic aspect starts with an equal weighting to each factor plus an additional weight based on a calculation of a factor’s standard momentum and long-term reversal signal relative to other factors. The additional weights to a specific factor are capped at a max of 15% and a minimum of -15% relative to the equal weights.

Financial advisors who want to learn more about smart beta and multi-factor investing can register for the Thursday, September 13 webcast here.