With interest in factor-based investing gradually gaining ground in Asia, large and relatively sophisticated institutional investors are increasingly asking external managers to implement such strategies and seeking to build up their own capabilities.
However, other asset owners in the Asia-Pacific region are still proving slow on the uptake.
Those are among the principal findings of a global survey by Invesco released today (November 6), which covered 300 insurers, pension funds, sovereign wealth funds, private banks and asset consultants, including 65 Asia-Pacific respondents.*
Factor investing is a strategy in which securities are chosen based on certain characteristics and attributes – or factors – with a view to achieving higher returns or different outcomes than would be achieved from indices' standard weighting by market capitalisation.
In particular, the survey canvassed opinion on two specific factor-investing products – smart beta and active quant.
According to the Invesco survey, 63% of Asia-Pacific institutions use segregated mandates for smart beta and active quant strategies. Exchange-traded funds and exchange-traded notes, mutual funds, and total return swaps are other factor implementation vehicles used by investors.
"Given that the factor investing experience has been largely positive for those institutions with exposure, we would expect there to be a continued increase in segregated mandates among Asia-Pacific institutions, especially with the current limited availability of locally listed exchange-traded funds," Stephen Quance, Asia Pacific director of factor-based investing at Invesco based in Singapore, told AsianInvestor.
"That said, institutions have also shown their ability to upskill their in-house investment teams in factor strategies, so external managers will need to ensure they are well positioned to compete and prove their value in this market," he said.
A desire to work with external managers on factor investing, specifically international equity portfolios, was expressed by an Australian pension fund quoted in the report.
"This may see us hire and/or partner with external asset managers given our lack of experience in the idiosyncrasies of equity markets outside those prevalent in Australia,” the fund said.
The Aussie fund, which started factor investing in 2017, runs most of its factor strategies internally, together with a couple of external asset managers for specific strategies.
“While most institutional investors in Asia still don’t use factor strategies, the ones who do use it are very advanced [in their usage] and are comfortable moving into new areas [of investing],” Quance noted.
He added that those who do use such strategies tend to be the larger, more sophisticated asset owners.
Use of factor products is growing among insurers and pension funds in Asia – including institutions such as Bureau of Labour Funds, New Zealand Super Fund and Prudential Asia – just as it is elsewhere, with UK pension funds, for instance, building their exposure to such strategies.
Overall, 53% of the region’s institutional investors preferred constructing factor portfolios with a single manager, data from the Invesco survey showed.
In terms of factor style, value was the most preferred. In terms of macro factors, real rates, credit and economic growth led the list.
BUILDING FACTOR STRENGTHS
Despite the strong preference for segregated mandates, Quance noted that some Asia-Pacific respondents were also making efforts to build their internal capabilities for factor investing.
These revolve around managing their own factor-type strategies and just gaining more confidence in the process to improve the hiring and better evaluate factor managers, he said.
The Invesco survey noted that factor capabilities are being developed in two ways.
One is as an investment strategy, either at an asset class or portfolio level. "In this model, the investor does not intend to manage its own factor mandates but wishes to build an internal capability to understand how factor fits into asset class allocations, or applications of factors at a portfolio level," the report said.
Quance said most institutional investors had set up internal teams along traditional lines – a team for traditional active strategies, another one for passive strategies, and a third one for asset allocation. "They are still figuring out how factor strategies fit into this framework,” he said.
In most cases factor investing is thought of as a distinct approach, usually applied on an asset class basis, sitting between active and passive.
The second way is to develop an investment strategy as well as mandate capabilities. In this model, the investor extends from factor strategy capability to also running its own internal factor-based mandates.
Among those in the Asia-Pacific region surveyed by Invesco, factor allocations have certainly become an key component of portfolios, with 23% allocated to factor strategies, just behind passive strategies (25%). (Active strategies accounted for 52% of portfolios).
Extrapolating from that to the wider region is another thing though. Quance cautioned that the results could indicate a sampling bias, since the respondents in Asia were largely concentrated in very large institutions that have employed factor strategies for a while now.
One Asian sovereign wealth fund quoted in the report said about 40% of its asset managers utilised factor strategies.
It noted that it had always had a significant allocation to traditional index-tracking passive strategies in its equity portfolio. “Over time, through internal research and with conversations with consultants and asset managers, we decided that using factor strategies could lead to better risk-adjusted returns over a full market cycle than market-cap passive strategies," the sovereign wealth fund said.
Overall, factor strategies account for 0% to 20% of the portfolios of most institutions in the region, the report said.
*The survey only covered respondents already using at least one factor strategy in their investment portfolios.