Tag Archives: investing

Lazard Explains Benefits Of Multi-Factor Smart Beta

Smart-beta strategies attempt to provide better risk-adjusted returns by using measures other than market capitalization to weight portfolio holdings. Historically, these alternative weightings have produced higher Sharpe ratios, a measure of return per unit of risk, and this is why they’ve earned the “smart” moniker in the view of their advocates. Smart-beta strategies can be considered as occupying the middle-ground between active and passive investing, with rules-based methodologies (like passive investing) that nevertheless deviate from broad market benchmarks (like active investing). Distinct smart-beta strategies and funds can either be “single factor” or “multi-factor,” as explained in Lazard’s December 2015 Letter from the Manager: A Better Kind of Beta , which reviews five such “factors” before going on to make the case for multi-factor investing in general, and Lazard’s own multi-factor strategies in particular. Style Factors A “factor” is any consistent characteristic that academic research has shown explains the risk or return characteristics of stocks. Common style factors include: Value – Value-investing is championed by the most successful investor of all time: Warren Buffett. But “value” can be defined in a number of ways, and not all measures are as likely to produce superior results. In Lazard’s view, a combination of “cyclical” (such as price-to-book) and “defensive” (such as cash flow) measures provides the most consistent exposure. Momentum – Stocks going up tend to continue going up – and vice-versa. At the same time, what goes up must come down – the question is “when?” Lazard recommends using measures other than simply price momentum to judge market sentiment – including macroeconomic data releases. Low Volatility – Low volatility stocks have added appeal in the wake of the financial crisis, but Lazard thinks this factor can best be exploited not by allocating specifically to low-volatility stocks, but by targeting low volatility in portfolio construction. Lazard’s process identifies low-volatility companies with attractive fundamentals. Quality – Lazard’s take on “quality” compares a company’s (paper) earnings and (actual) cash flow. Accounting rules and the market’s short-term focus may put undue emphasis on the former, whereas an analysis of a company’s cash flow may provide a more accurate estimate of its earnings strength. Growth – While “momentum” is a growth measure determined by share price, the “growth” factor considers a company’s financial statements. Lazard’s approach is designed to identify stocks that are well-positioned to experience above average growth in the future. Multi-Factor Advantages Multi-factor investing offers the advantages of diversification and flexibility. Although individual factor indexes have outperformed since 1988, returns are cyclical and different factors outperform at different times. Diversified multi-factor investing thus works to mitigate volatility, which can limit account drawdowns. Multi-factor investing also promises the benefit of flexibility, wherein outperforming factors can be emphasized. Single-factor and passive cap-weighted investing has no such flexibility. Lazard boasts of its own “multi-factor pedigree,” with “a set of balanced style criteria” that have been researched and refined over the past two decades. The firm has been implementing multi-factor approaches in live portfolios over the entire in period, in a variety of global-, regional-, and country-specific scenarios. In fact, Lazard was doing smart beta before smart beta was even known as smart beta – Lazard used to call it “quantitative” or “systematic” investing. “Not all smart-beta strategies are created equal,” according to Lazard, and in the firm’s opinion, exposure to several factors provides far greater consistency of performance over both the long- and short-term. Lazard’s own multi-factor strategies have “the benefit of the skill and long-standing experience” of the firm’s multi-factor selection, combination and diversification, as well as ongoing research and risk monitoring. For more information, download a pdf copy of the letter .

How Prices Of ETF BIB Are Seen By Market-Makers

Summary This discussion, not a conventional review of biotech development pipeline conditions, is a study of how prices for the ETF are evaluated by market pros and the market’s subsequent reactions. Market-makers [MMs], regularly called on to negotiate volume (block trade) transactions in BIB have a special insight advantage – knowing trends of buy-side “order flow.” Why buy? or why sell? often is far less important to resulting price trends than “By how much, and how long it is likely to persist.” The MMs reveal their conclusions by the way they protect themselves and their at-risk capital commitments – in hedging. Behavioral analysis lets us know. How has the subject security been behaving? The ProShares Ultra Nasdaq Biotechnology ETF (NASDAQ: BIB ) is an issue with about 2 ½ years of markets transaction history, just under the three-year minimum we like to have for historical research and behavioral analysis. But it turns out to be an active enough subject to provide a good deal of perspective, in a dynamically competitive arena of intense and continuing interest to big-money investment organizations. Figure 1 shows how buy-side transaction orders have been prompting MM’s conclusions about likely coming price ranges day by day over the past 6 months. Figure 2 extends that same analysis to the past 2 years by means of extracting daily forecasts on a once a week basis. Figure 1 (used with permission) Price ranges indicated by vertical lines in these pictures are forward-looking forecasts of the likely extremes for BIB during the life of the derivatives contracts used to hedge MM capital put at risk in the process. The heavy dot in each vertical marks the closing price of the day of the forecast, and separates the range into upside and downside segments. The current day’s Range Index [RI] of 14 measures the percentage of the whole forecast range that is below that market trade. It defines the historic sample of 24 prior forecasts of similar upside-to-downside proportions used to evaluate the present-day forecast. The distribution of RIs available during the past 5 years (only 627 here) is shown in the lower thumb-nail picture. Quality of prior forecasts is indicated by only one of the 24 priors failing to recover from the -4.8% worst-case price drawdowns to earn a gain under the portfolio management discipline standard regularly used to compare alternative investment results. The other 23 (96% of the 24) combined with the loser to produce an average gain of +16.4% in an average holding period of 5 weeks (25 market days). That relatively short holding period contributed to the CAGR of +356%, the magnet of our wealth-building interest. Figure 2 (used with permission) Figure 2’s expanded time dimension provides a sense of its longer experience and how the values seen now relate to the past. Another comparative dimension is how BIB now relates to other investment alternatives. Figure 3 lists other Biotech-focused ETFs and provides perspectives on their size, market liquidity, and year-to-date price behaviors. Figure 3 (click to enlarge) Included in this table are the Market-proxy ETF, the SPDR S&P 500 Trust ETF (NYSEARCA: SPY ) and an inverse ETF, the ProShares UltraShort Nasdaq Biotechnology ETF (NASDAQ: BIS ) . BIS is structured to move in price 2x the opposite direction of its underlying index, while BIB holds mainly derivative instruments that leverage its price moves positively, to 2x the daily action of that same index. The index in question is the NASDAQ Biotech Index which is directly tracked by the iShares Nasdaq Biotechnology ETF (NASDAQ: IBB ). Its holdings are shown in Figure 4, strictly for perspective. Figure 4 An important aspect of any investment comparison is the trade-off between risk and reward. Figures 1 and 2 provide the data for BIB in side-by-side amounts of +13.3% and -2.9% in the rows of data contained in each. A visual comparison of those dimensions can be made from the map of Figure 5. Figure 5 (used with permission) The green % Upside Reward Scale at bottom of the map is quite understandable. But the red vertical scale of % Price downside may raise confusion between the downside portion of the forecasts and the worst-case price drawdowns of prior forecast experiences. Our experience is that the downside segment of the current-day forecasts is often exceeded by price drawdown experiences of prior like forecasts, and in turn, the current forecasts add to the priors. Besides it is not the forecasts that lead to capital losses (risk), but the experience of seeing investment prices descend below their entry cost prices, and staying there or getting worse, to the point where the investor throws in the towel and locks in a loss. When by having the fortitude to ride the stress out, he/she might likely see the position recover to a profit situation. So we use experiences rather than forecasts on the risk side of the equation. In Figure 5, BIB in position [3] clearly dominates most of the alternatives with a better trade-off. That adds to its quality advantage of a proven high-payoff history. BIS up in [6] is at the disadvantage of its “short” structure in a group where the current outlook is for higher stock prices. Conclusion: BIB currently presents a reasonably credible, albeit shorter, history of substantial rates of gain from earlier pro forecasts like that seen today. Investors should add to their own due diligence on the ETF’s competitive and profitability due diligence a hearty encouragement on the price-prospects front from market professionals.