This article was originally published on ETFTrends.com.
Many investors have turned to passive index-based investments to growth their wealth, but a new breed of smart beta index-based ETFs may also help investors achieve targeted outcomes.
"Passive investing is still an important part of asset allocation but investors may look for different risk return profiles, and factor investing can help achieve different outcomes. For example, an investor may be looking for a more diversified portfolio, or to protect downside risk, and combining single factors can achieve those objectives," Marlies van Boven, Managing Director of Research and Analytics at FTSE Russell, told Pensions Age and European Pensions.
Van Boven explained that by combining different factors, investors have exposure to the different sensitivities to the economic cycle, attaining different risk return profiles. For instance, an investor who wants a more defensive position could combine low volatility with quality, which could help diminish downside risks, but this type of strategy will also not capture the full upside potential. The objective would then be wealth preservation instead of growing wealth.
Furthermore, if an investor is looking for a more diversified approach, one could combine all the factors instead of betting on a single approach. An investor would combine value, size, momentum, quality and low volatility. This would result in a portfolio that does well both up and down markets due to the diversified properties.
"Investors can choose from two different methodologies, a top-down approach where you combine single factor indices into a multi-factor index. Or a bottom-up approach, which is an integrated approach where you combine the factors at the stock level," van Boven added.
For example, single factor products offer precise exposure to well-established and time-tested investment styles including value, momentum, quality, size, yield and low volatility.
Something like the Oppenheimer Russell 1000 Value Factor ETF (OVLU) plays on the theme of stocks that appear cheap tend to perform better than stocks that appear expensive.
The Oppenheimer Russell 1000 Size Factor ETF (OSIZ) focuses on the size factor, which refers to smaller companies outperforming larger company stocks and is screened by full market capitalization.
The Oppenheimer Russell 1000 Momentum Factor ETF (OMOM) follows the idea that stocks which rise or fall in price tend to continue rising or falling in price.
The Oppenheimer Russell 1000 Quality Factor ETF (OQAL) bets on higher quality companies in the hopes that they perform better than lower-quality companies.
The Oppenheimer Russell 1000 Low Volatility Factor ETF (OVOL) follows the theme where stocks that exhibit lower volatility tend to perform better than stocks with higher volatility.
Lastly, the Oppenheimer Russell 1000 Yield Factor ETF (OYLD) tracks the idea that higher-yielding stocks tend to perform better than stocks with lower yields.
Additionally, the factors can be combined into something like Xtrackers Russell 1000 Comprehensive Factor ETF (DEUS) and Xtrackers Russell 2000 Comprehensive Factor ETF (DESC) , which select companies through exposure to a subset of the low volatility, momentum, quality, size and value factors.
For more information on factor-based investments, visit our smart beta category.
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