Asian investors have been slow to take up low-volatility strategies within factor-based investing, but this reticence is slowly changing on the back of concerted marketing efforts by exchange-traded funds and other providers. 

Jan Sytze Mosselaar, portfolio manager at Netherland’s asset manager Robeco, told AsianInvestor that the most active regional adopters of low volatility strategies are government institutions, including central banks and government-backed pension funds.

In contrast, wholesale distribution of these funds, such as through private banks, remains slow as bankers are just beginning to understand factor-based investing in general.

Factor-based investments can also be referred to as smart beta or rules-based investment. They typically involve selecting stocks based on different factors or characteristics, such as valuation, low risk, quality and size. 

A low-volatility strategy, as its name implies, seeks to use a combination of rules together with market data to identify and invest in equities that have relatively low risk – both in terms of stock movements and the riskiness of the share issuer, along with appealing valuations and good price momentum. 

Robeco claims to be one of the largest active low volatility managers globally with €13 billion ($15 billion) in assets under management.

Rotterdam-based Mosselaar, who was in Asia last week, said low volatility strategy adopters are typically sophisticated institutional investors. Asia’s government institutions fall into this category and have been giving out mandates for this strategy for years.

However, Robeco has found it harder to convince distributors in Asia to take up the strategy compared to those in Europe. This is largely down to a lack of understanding. Conversations with Asian distributors typically revolve around general questions about factor investing in general, as opposed to the differences in strategies among asset managers, noted Mosselaar. This contrasts with discussions in other regions.

“In Europe, private banks use this strategy in both advisory and discretionary portfolios,” he said.  

Factoring in funds

Despite this, factor-based investing is gradually gaining traction in Asia, in part because big players such as BlackRock are talking up the diversification merits of the strategy.

BlackRock recently sponsored a survey showing that Asia Pacific institutional investors are increasing their use of factor-based strategies faster than their peers in other regions. According to the survey, up to 75% of Asia respondents intend to increase their use of factors over the next three years, versus 52% in the Americas and 60% in Europe, the Middle East and Africa. The high demand was attributed to the lower base in Asia compared to the other markets.

Mosselaar noted that large index ETF providers such as BlackRock have been making a lot of noise about factor investing. That has led bank distributors to hear more about it, but they are often ignorant of the differences between different strategies within the investment approach.

“So we get a lot more general questions and not so much about the differences among managers,” he said.

Not all Asian institutional investors are sold on factor-based approach. Malaysia’s $161 billion Employees Provident Fund, for example, does not consider it to be an effective investment approach (as previously reported).

Hedging approach

A low-volatility strategy should ideally minimise market losses in a bad environment. Mosselaar said funds using this strategy should invest in stocks that end up falling slower than others in a declining market. And once the market recovers, these low-volatility stocks should be quicker to start yielding positive returns again. 

Robeco’s approach to low-volatility investing is to screen thousands of stocks in its universe for the ideal combination of factors. It ranks the stocks based upon each of these factors and only buys the top-ranked ones. Mosselaar said this systematic process, which is based on data, avoids behavioral investment mistakes.  ­­­

“We do that [analysis] in a systematic way that’s why we are called quant. But we do not do mathematical calculations. We look at factors and score stocks based on these factors,” added Mosselaar.

Robeco manages four low volatility strategies - global, European, emerging markets, and US  – which have both institutional and retail investors.

It has considered offering an Asia low volatility fund, but Mosselaar noted that launching such a fund that would depend on demand from global investors, among other factors.

“One of the challenges is to convince investors that this is just a long equity investment.  The only difference is we select stocks on rules-based manner instead of like a fundamental equity manager who makes up his own decision [in stock selection],” he said.

“We do not use any derivatives, nor short or leverage stocks. We do not use complex formulas. Investors should beware of strategies that are complex and have high turnover because it is not necessary. You can avoid a lot of trading cost.”