As investors try to navigate an extended bull market environment, many should consider smart beta exchange traded fund strategies to potentially improve portfolio diversification and enhance returns.
“We believe investing through a lens of equity style factors –broad, persistent characteristics driving returns –can potentially help investors increase diversification and enhance returns relative to broad market exposure,” Kate Moore, Chief Equity Strategist at BlackRock Investment Institute, and Andrew Ang, Head of BlackRock’s Factor-based Strategies Group, said in a research note.
The two strategists argued that investors should focus on a diversified multifactor portfolio.
“We advocate ’tilting’, or adjusting exposure to various factors in a diversified multifactor portfolio. We believe economic regime is the biggest driver of equity style factor performance, although combining this with other indicators such as relative strength, valuation and dispersion can potentially produce better results,” the BlackRock strategists said.
For example, investors can use the iShares FactorSelect MSCI USA ETF (NYSEArca: LRGF), which tracks the MSCI USA Diversified Multi-Factor Index, to track U.S. markets, or the iShares FactorSelect MSCI International ETF (NYSEArca: INTF), which tracks the MSCI World ex USA Diversified Multiple-Factor Index, for overseas exposure.
Both LRGF and INTF’s underlying indices screen for four well-known investment factors, including value, quality, momentum and low size, to focus on financially healthy firms, stocks that are inexpensive, smaller companies and trending stocks to potentially enhance returns and diminish risks.
The multi-factor ETFs seek “to maximize exposure to factors that have historically outperformed the broad market (quality, value, size and momentum), while maintaining a similar level of market risk,” according to BlackRock’s iShares.
Additionally, the BlackRock strategists prefer the momentum and value stand-alone factors.
“We prefer momentum (stocks trending higher) in today’s economic environment. We also see potential for the value factor (the cheapest corners of the market) to perform well in coming quarters against a backdrop of stable cyclical expansion.
For momentum exposure, ETF investors can look at something like the iShares MSCI USA Momentum Factor ETF (NYSEArca: MTUM) and iShares MSCI International Developed Momentum Factor ETF (NYSEArca: IMTM), which screen for stocks with relatively high price momentum.
Additionally, the iShares Edge MSCI USA Value Factor ETF (NYSEArca: VLUE) and iShares Edge MSCI Intl Value Factor ETF (NYSEArca: IVLU) screen for stocks with lower valuations based on fundamentals.