Portfolio of Risk Premia: A New Approach to Diversification

Bender, Jennifer; Briand, Remy; Nielsen, Frank; Stefek, Dan

doi:10.2139/ssrn.2543991

Cited by 4 publications

(6 citation statements)

References 12 publications

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“…First, diversifying across factors protects against the possible underperformance of one or more factors for prolonged periods (for a more detailed exposition of the diversification benefits of allocating to factors, see Bender et al 2010;Ilmanen and Kizer 2012). Second, the tracking errors of individual factors to the market are relatively large, but given the modest correlations between the factors' outperformances, the tracking error of the multifactor portfolio is well below the average of the tracking errors of the individual factors.…”

Section: Resultsmentioning

confidence: 99%

“…Blitz (2012) argued that investing in factors should be a strategic decision because of the long-term investment horizon required to harvest the premiums. Bender, Briand, Nielsen, and Stefek (2010) and Ilmanen and Kizer (2012) also made the case for strategic allocations to factors, stressing the diversification benefits. Ang (2014) devoted an entire book to factor investing.…”

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confidence: 99%

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Factor Investing in the Corporate Bond Market

Houweling¹,

ZundertJeroen²

2017

Financial Analysts Journal

112

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This article examines the performance of size, low-risk, value, and momentum factor portfolios in the corporate bond market. A factor portfolio is constructed by sorting bonds on a specific characteristic: Size contains bonds of small companies, based on the market value of their outstanding bonds; low risk contains short-maturity bonds with a high credit rating; value selects bonds whose credit spread is high relative to a model-implied fair spread; and momentum consists of bonds with high past returns. In addition to these individual factors, in our study we analyzed a multi-factor portfolio that combines the four factors. We found that both single-factor and multi-factor portfolios generate economically meaningful and statistically significant alphas.Our study belongs to the empirical asset pricing literature 1 documenting that factor portfolios carry a premium beyond the traditional asset class premium, as postulated by the CAPM. Even though this literature has existed for decades, it has focused predominantly on equities. The best-documented factors in the equity literature are low risk (starting with Haugen and Heins 1972), value (Basu 1977), size (Banz 1981), and momentum (Jegadeesh and Titman 1993). For corporate bonds, the evidence is both more limited and more recent. The documented factors are low risk (e.g., Ilmanen, Byrne, Gunasekera, and Minikin 2004; Frazzini and Pedersen 2014) and momentum (e.g., Pospisil and Zhang 2010; Jostova, Nikolova, Philipov, and Stahel 2013). Evidence on other factors is scarce. We are aware of only two papers on value (L'Hoir and Boulhabel 2010;Correia, Richardson, and Tuna 2012) and none on size. The existing studies on factors in the corporate bond market each focus on one particular factor, whereas in our study, we analyzed the size, low-risk, value, and momentum factors using a consistent methodology with a single dataset. OurWe offer empirical evidence that size, low-risk, value, and momentum factor portfolios generate economically meaningful and statistically significant alphas in the corporate bond market. Because the correlations between the single-factor portfolios are low, a combined multifactor portfolio benefits from diversification among the factors: It has a lower tracking error and a higher information ratio than the individual factors. Our results are robust to transaction costs, alternative factor definitions, alternative portfolio construction settings, and constructing factor portfolios on a subsample of liquid bonds. Finally, allocating to corporate bond factors provides added value beyond allocating to equity factors in a multi-asset context.

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Section: Resultsmentioning

confidence: 99%

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confidence: 99%

Factor Investing in the Corporate Bond Market

Houweling¹,

ZundertJeroen²

2017

Financial Analysts Journal

112

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“…As to the factor regimes, a strand of literatures documented the superiority of factor-based asset allocation relative to asset-classes-based asset allocation (Clarke, de Silva, and Murdock, 2005;Bender, Briand, Nielsen, and Stefek, 2010;Bender et al, 2010;Page and Taborsky, 2011). The rationale is that the factor-based allocation concentrates on factors that carry risk premium as multiple distinct sources of returns.…”

Section: Factor Regimesmentioning

confidence: 99%

“…A higher high-yield spread indicates a lower default premium, and vice versa. These are common measures for the premiums in the factorbased asset allocation (see for example, Clarke, de Silva, and Murdock (2005), Bender, Briand, Nielsen, and Stefek (2010), Bender et al (2010), Page and Taborsky (2011)). Figure 2 shows the graphs for both macroeconomic and factor regimes.…”

Section: Regimes In Factor Premiummentioning

confidence: 99%

The role of Islamic asset classes in the diversified portfolios: Mean variance spanning test

Dewandaru

Masih

Bacha

et al. 2017

Emerging Markets Review

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This study investigates both conventional and Islamic investors' problems as to whether the inclusion of Islamic and conventional asset classes may expand the frontier of their respective portfolios. Our sample covers the global U.S. portfolios and Malaysian portfolios with multiple asset classes, as well as the portfolios with a specific asset class in several regions. This study uses the recent mean-variance spanning test in multiple regimes, which not only accounts for tail risk but also identifies the source of value added (tangency portfolio or global minimum variance).For intra-asset allocation, our findings show that both Islamic and conventional fund managers of a specific asset class can benefit from conventional and Islamic asset classes, respectively, in several regimes. For inter-asset allocation, conventional institutional investors cannot obtain any value added from Islamic asset classes. On the contrary, the U.S. Islamic institutional investors can expand their tangency portfolio by investing in U.S. TIPSs and REITs, and reduce their global minimum variance by allocating on U.S. high-yield bonds. Moreover, the Malaysian Islamic institutional investors can obtain risk reduction by investing in conventional bonds only in the high term premium regime. For the remaining asset classes, the opportunity sets are sufficient for Islamic investors to invest complying with Shariah rules. We provide some policy implications for the global Islamic financial industry.

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“…In the wake of the 2008 financial crisis many risk management practices have been reevaluated. An institutional investor survey done in 2009 by MSCI Barra (Bender & Nielsen, 2009) identified stress testing and analyzing tail risks as critical components for future risk management. Under Basel II and III there has equally been more focus on stress testing and extreme risks.…”

Section: Introductionmentioning

confidence: 99%

A review on drawdown risk measures and their implications for risk management

Geboers

Depaire

Annaert

2022

Journal of Economic Surveys

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As highlighted by the recent market turmoil following COVID‐19, markets can experience significant retracements or drawdowns. While these recent market moves have definitely been large, significant drawdowns have been around since the start of financial markets. Various risk metrics such as Value at Risk and volatility are used to describe risk. The intuitive drawdown risk measure, which is often used in practice alongside the above metrics, is receiving more and more academic attention. In this article we provide a systematic review of the literature on the drawdown risk measures. We describe two different methodologies for calculating drawdowns and analyze drawdown based risk measures used in risk management, portfolio construction and optimization. Finally we discuss the statistical properties related to drawdowns. Based on the research done so far, we identify several areas for further research.

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Portfolio of Risk Premia: A New Approach to Diversification

Cited by 4 publications

References 12 publications

Factor Investing in the Corporate Bond Market

Factor Investing in the Corporate Bond Market

The role of Islamic asset classes in the diversified portfolios: Mean variance spanning test

A review on drawdown risk measures and their implications for risk management

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