Return-based Style Analysis Research Articles

Can monthly-return rank order reveal a hidden dimension of momentum? The post-cost evidence from the U.S. stock markets

We introduce a new return-momentum indicator that is based on monotonicity of monthly-return rank order within a lookback period (henceforth abbreviated as MRRO). Based on an extensive post-cost performance comparison of long-only momentum portfolios formed on six stand-alone and 36 double-sort criteria across three holding period lengths in the non-microcap universe of U.S. stocks over the 55-year sample period, MRRO is particularly useful for annual holding periods, towards the end of whom the conventional return-momentum indicators tend to lose their prediction power. Based on the return-based style analysis, MRRO adds some favorable style-diversification characteristics into long-only momentum portfolio selection.

The Friend of Your Trend

Standard performance attribution to beta and alpha is not simple without full transparency into the investment process. This article develops an analytical framework to shed light on ex-ante stylized characteristics of a simple trend following strategy. Our analytical results show that rewards from the trend following strategy embed different degrees of underlying asset beta, which are determined by the asset’s return-to-volatility ratio, in addition to the trending behaviors that the strategy is built to harvest. We compare the results to ex-post realized returns-based style analysis of a CTA index. We discuss practical implications of our results with respect to fees and allocations to trend following strategies.

Estimating the effect of active management and private equity for defined benefit pension funds

We conduct a returns-based Sharpe (1988, 1992) style analysis of U.S. corporate defined benefit pension plans. The returns for corporate pension funds are reported only once per year, limiting the degrees of freedom for a returns-based style analysis. To address this problem, we introduce a “Search” method that systematically tests all possible combinations of a limited number of factors (market indices) to find the set with the highest explanatory power of historical returns. We find that pension funds exhibit significant exposure to private equity, much more so then balanced funds. We provide a new approach to measuring the relative contributions of policy and active management by using squared partial correlation coefficients to control for market movements. We find that pension funds show more active management compared to balanced funds.

Style Analysis: Asset Allocation and Evaluation of Sharia Equity Fund Performance

The purpose of this research is to analyze the characteristic style of sharia equity funds such as asset allocation, investment strategy, and evaluation of its performance. The analysis technique used in this study is return based style analysis by observing ten asset class factor and eight of sharia equity funds in Indonesia. The results found that sharia equity fund in Indonesia allocates funds to the Sharia shares in almost all asset class factor with passive strategy, but the actual performance has not been able to outperform its style performance. Only one from eight Equity funds can outperform its style by using a more passive strategy compared to other equity funds. Its result indicates that almost all sharia equity funds in Indonesia do not choose the correct investment strategy style.

Investment performance, regulation and incentives: the case of Chilean pension funds

AbstractWe examine the investment performance of Chilean pension funds during their multi-fund period (2003–17). Using tradable asset class benchmarks, we extend Sharpe's (1992) return-based style analysis by explicitly considering regulatory restrictions and currency hedging. We find that despite the significant differences between pension fund manager returns, they are statistically similar to our style benchmarks for all fund types. Furthermore, accounting for currency hedging improves the accuracy of the replicating portfolios and the selection return estimates. Our results have policy implications for investment regulation of pension systems with similar characteristics to the Chilean one.

Private Retirement Scheme Funds: Will the Asset Allocation Strategy Work For Retirees?

One of the principal-agent problems is the asymmetric information between fund managers and investors. To mitigate this issue, this study conducts the return-based style analysis on Private Retirement Scheme funds to their asset allocation strategy. Our results show: First, conservative funds have a strong focus on fixed income products rather than equity. Second, in terms of asset allocation to equity, on average, growth funds have a higher allocation to foreign equity of 16.28 per cent, followed by moderate funds of 9.18 per cent; Third, growth funds focus on large growth stocks, while moderate funds focus on large value stocks. However, three observations deserve our attention: First, a high degree of selection for the conservative fund will entail higher transaction cost; and second, in terms of the degree of style and selection, conservative funds do not vary much from growth funds. In other words, there is no distinct product differentiation between the two categories; Lastly, there is a wide disparity in asset allocation across the conservative funds. This implies some degree of risk-taking by some fund managers. These results suggest that the financial goals of retirees will be undermined if PRS funds do not focus on their mandate.

The Performance and Asset Allocation of German Robo-Advisors

After a short historical perspective on the emergence of robo-advisors and an overview of how they manage other people's money, we evaluate the performance of five German robo-advisors in the period between May 2015 and December 2018. Performance tests are conducted using Sharpe's (1966) and Jensen's (1968) performance methodologies. We also employ the returns-based style analysis of Sharpe (1992) to determine the exposure of robo-advisors to different non-overlapping asset classes. We report the following findings: First, no robo-advisor was able to beat the benchmark before or after considering fees. Second, robo-advisor performance varies greatly in the sample period even for portfolios that should appeal to clients with similar risk preferences. Third, these performance differences remain unexplained after accounting for the different asset allocations.

Estimation with Flexible Probabilities: Identifying Rand Hedges, Finding Diversifiers, Enhancing Style Analysis

At its core, portfolio and risk management is about gathering and processing market-related data in order to make effective investment decisions. To this end, risk and return statistics are estimated from relevant financial data and used as inputs within the investment process. It is this estimation step which is ultimately key in transforming raw financial data into useful investment information. Therefore, having a flexible and robust estimation process is of crucial importance to all market participants. In this work we make use of the Flexible Probabilities framework and show how to incorporate different forms of time-conditioning and market state-conditioning into any estimation procedure. This framework allows one to calculate conditional risk and return statistics in a simple manner for a wide range of portfolio and risk management applications. We then make use of this framework in three applications which we believe to be directly relevant to South African market participants. Firstly, we address the long-standing issue of identifying rand-hedge stocks and quantifying the extent of their hedging ability, specifically in times of rand weakness and strength. Secondly, we examine whether the ‘myth of diversification’ – that diversification disappears when one needs it most – holds true for South African markets. Finally, we extend the original returns-based style analysis framework to allow for time- and state-conditioned weights and estimate the style mix of the South African equity market across time and market regime.

Mutual Fund Investment Style Consistency and Risk-adjusted Performance

While it is commonly agreed on that a mutual fund´s investment style influences its returns to investors, academia has not fully explored the relationship between a mutual fund´s consistency with its stated investment style and risk-adjusted performance. The study at hand employs a novel consistency ratio by means of the return-based style analysis for U.S. equity mutual funds to investigate that relationship. Based on their consistency scores, mutual funds are subsequently divided into quintiles and compared for their risk-adjusted performance. Evidence is found that investment style consistency does influence risk-adjusted returns and that the financial crisis had a major impact on that relation. While a convex curve describes the relationship between style consistency and fund performance before the financial crisis, it reversed into a concave curve afterwards. This study contributes to current research by going beyond a linear relationship between mutual fund investment style consistency and risk-adjusted performance, commonly assumed in prior studies.

Extraordinary Value Partners, LLC

Sun Charities has an endowment of $100 million. Parker, the chief investment officer of Sun Charities, has an opportunity to invest in Extraordinary Value Partners (EVP), a hedge fund. He is considering investing $10 million in EVP. How should he evaluate the investment opportunity?Application of return-based style analysis to evaluate the performance of a long-short equities hedge fund. Use of mean-variance portfolio optimization for deciding how much to invest in the long-short fund.

Exposition to Factors of the Investment Funds Market in Brazil

ABSTRACT The growth of the investment funds industry in Brazil and its international representativeness indicate the relevance of analyzing this sector. Literature has shown the effects that market factors can have on the performance of investment funds. One way of evaluating the relation between funds' returns and market factors' variations is the return-based style analysis. In this context, this research aimed to investigate, through the style analysis, the exposition to various market factors in two modalities of investment funds. With this analysis, we may infer differences between the allocations and the composition of portfolios, constructing a panorama of sensitivity of funds' returns to the market factors addressed in the study. The database consisted of daily returns of 508 funds, out of which 385 are fixed income funds and 123 are Neutral Long & Short multimarket funds, within the period from January 3, 2005, to July 11, 2014. Through the style analysis, with 6 market factors, we found a difference between the composition of portfolios of multimarket funds and portfolios of fixed income funds. Regarding the evolution of the composition of portfolios in these funds, we observed that the investment style of funds does not seem to be constant over time, something which may be a positive evidence concerning the changes that managers promote in their portfolios, seeking to achieve better profitability indicators.

Factor Investing in South Africa

Risk factors and systematic factor strategies are fast becoming an integral part of the global asset management landscape. In this report, we provide an introduction to, and critique of, the factor investing paradigm in a South African setting. We initially discuss the general factor construction process at length and construct a comprehensive range of risk factors for the South African equity market according to international factor modelling standards. In this report, we focus on the size, value, momentum, profitability, investment, low volatility and low beta risk factors respectively. We critically examine the historical behaviour and robustness of these factors, paying particular attention to the issues of long-only versus long/short factors, the impact of size, the effect of rebalancing frequency and data, and the robustness of performance to alternative factor definitions.We also review how these factors can be used generally in risk management and portfolio management. In the risk management space, we firstly consider risk attribution to factors and introduce the Factor Efficiency Ratio as a means of quantifying a fund’s desired versus undesired factor exposure. Secondly, we consider returns-based style analysis as a means of identifying a fund’s factor style mix and also as a method for replicating existing indices with long-only risk factors. In the portfolio management space, we discuss several approaches for creating multi-factor portfolios. We start by considering the simplest case of portfolio mixing, which allocates to a set of predefined factor building blocks. We then review the integrated scoring approach, which accounts for multiple factors within the scoring process directly. Finally, we consider a mixed integer programming optimisation approach, which allows an investor to construct an optimal multi-factor portfolio that is as consistent with their return objectives and risk preferences as their constraint set will permit.

ANÁLISE DE ESTILO DINÂMICA DE FUNDOS MULTIMERCADOS: APLICAÇÃO PARA O MERCADO BRASILEIRO

Este artigo aplica o modelo de análise de estilo baseado em retornos (RBSA) considerando explicitamente a presença de exposições variantes no tempo. Inicialmente, o modelo é estimado assumindo que os estilos são constantes ao longo do tempo. Posteriormente, é utilizada a abordagem do filtro de Kalman para modelar as exposições dos fundos multimercados variantes ao longo do tempo. Usando uma base de dados de fundos multimercados brasileiros, os resultados mostram que a RBSA pode explicar mais de 50% da variância dos retornos dos fundos. Também evidencia significante exposição ao mercado de ações e que a exposição a fatores relacionados ao mercado de renda fixa vem crescendo. Finalmente, a modelagem considerada capta mudanças importantes no estilo de exposição a fatores de risco dos fundos multimercados brasileiros decorrentes da recente crise financeira global (2008-2009).

Style Analysis: Asset Allocation & Performance Evaluation of Indonesian Equity Funds, April 2004 – March 2009

This paper explores investment styles and risk exposures of mutual funds in Indonesia using Sharpe's return-based style analysis, a quadratic optimization of an asset class factor model, proposed by William F. Sharpe in 1992. The research observes nine sectoral asset class indexes and ifteen survivor Indonesian equity funds within April 2004 - March 2009. The results suggest that the infrastructure sector has the biggest exposure on average. This study also measures the relative performance of the funds with respect to their style benchmarks. The results indicate that the nine funds have been able to beat their style benchmarks on average. From all funds, Fortis Ekuitas is the best fund based on its average monthly selection return. );} // --> activate javascript

Assessing the Efficiency of Jakarta Islamic Index-Linked Investing

The passive investing is getting easier with the fund that mimics indexes or market portfolio. The sharia market instruments is the answer to the need of Muslim investors. In the future, there are possibilities for more index-linked funds, exchange traded funds, and index-based derivatives in Indonesia including their sharia counterpart. We analyze the performance of Jakarta Islamic Index in three aspects, profitability, stability, and efficiency, compared with ordinary indexes, the BISNIS-27 Index and the LQ45 Index. The profitability is analyzed using Fama and French Three Factors model. The stability aspect is analyzed using Sharpe Return Based Style Analysis and Style Drift. The efficiency aspect is analyzed using the simulation of indexes with different assets allocation. The result is the JII needs to tighten the selection criteria for its constituents to be more efficient than the BISNIS-27 and LQ45 indexes and it is better to add fundamental criteria to the constituent selection.

Return Based Style Analysis of Indian Equity Mutual Funds

In this paper we did a return based style analysis of equity mutual funds in India using quadratic optimization of an asset class factor model proposed by William Sharpe. We analyzed the relative performance of the funds with respect to their style benchmarks. Our results show that the funds have not been able to beat their style benchmarks. We also did an attribution analysis of the excess return of the funds over style benchmark into a selection and a timing component. Our results show that Indian equity mutual fund managers have good selection skills but poor timing skills. Their timing skills are poor enough to bring down their overall performance with respect to their style benchmarks, despite positive selection returns.

Are Risk-Parity Managers at Risk Parity?

Risk parity has become an accepted investment strategy, to some degree. Its main advantage is its use of risk allocation, as opposed to the capital allocation used by the traditional asset allocation approach. A balanced risk allocation provides true diversification; therefore risk parity should deliver better risk-adjusted return over time. Despite the acceptance and the fact that the term “risk parity” has been in use for almost ten years, the investment community seems confused about risk parity’s true definition. Is it just a quantitative risk-budgeting technique? Is it about operational leverage? Or is it about high exposures to fixed income and low exposures to equities? In this paper, the author aims to define the principle of risk parity investing. He then examines a sample of risk parity managers, using the return-based style analysis pioneered by William Sharpe. The results show that, according to the defined principle, a number of risk parity managers in our sample are not using true risk parity. <b>TOPICS:</b>Portfolio management/multi-asset allocation, factors, risk premia, risk management

Remuneration and Risk-Taking – Empirical Evidence for Social Trading

Social trading networks provide access to an innovative type of delegated portfolio management. We discuss institutional aspects of these platforms and point out that, as an intermediary, they are able to reduce information asymmetries between investors and portfolio managers. Using a unique dataset comprising transactions from the four major network providers, we show that the users on these platforms yield non-normal returns and exhibit a relatively high tail risk. We then apply return-based style analysis and find that they deploy dynamic trading strategies and follow directional approaches. Hence, they bear substantial systematic risk within any short-term period. Throughout the article, we illustrate that social trading networks provide access to hedge funds-like returns, but in contrast offer a high transparency, liquidity and accessibility.

Return-based Style Analysis in Australian Funds

This study applies return-based style analysis to a sample of Australian managed and superannuation funds, seeking to compare their asset allocation strategies across different style groups. Style analysis is performed using a rolling window estimation technique. As expected, riskier fund classes are more exposed to the riskier benchmarks. Further, differences in institutional and legal settings lead the managers of managed and superannuation funds to invest differently, with the latter employing a more conservative investment strategy despite having longer investment horizons.

Asset Allocation, Security Selection and Market Timing in Mutual Funds

Chapter 1 - Estimating Determinants of a Mutual Fund’s Risk and Managerial Performance: In this chapter, we construct a framework that can be used by investors to independently estimate a mutual fund’s actual and policy weights in a set of predefined asset classes, and to estimate a mutual fund’s security selection and market timing. Our framework has its foundation in a paper by Brinson, Hood and Beebower (1986). By using their framework, we see that we can measure a fund’s security selection and market timing only if we have the actual and policy weights. We argue that weights that reflect the fund’s short-term and long-term behavior are good estimates of a fund’s actual and policy weights respectively. In this matter, we can get estimates of the actual and policy weights by using Return Based Style Analysis (Sharp, 1992) in two steps. These estimates can in turn be used to estimate the fund’s security selection and market timing. Chapter 2 - An Empirical Study of Norwegian Mutual Fund Managers: In this chapter, we use the framework developed in chapter 1 to answer 3 important questions related to Norwegian mutual fund managers: 1) How much of the total variation in mutual fund return is explained by asset allocation, security selection and market timing respectively? 2) Is the average managerial performance positive? 3) Ceteris paribus, does a change in a mutual fund’s management cause a change in managerial performance? We find that a fund’s respective asset allocation, security selection and market timing explain 90.6%, 4.5% and 4.9% of the variation over time. Moreover, we find that the mutual funds are good in picking stocks, but loose by timing the market. In sum, the managerial performance is not significantly different from 0. We also find that when poor performing managers are replaced, excess return increases significantly. The opposite result holds when the very best managers are replaced.