The perils of factor investing in Australian equities
With the Australian share market dominated by banking and resources heavyweights, Australian investors need to think beyond active and market-cap strategies in Australian equities, according to VanEck.
While factor investing, a popular method used by active managers and smart beta approaches, had been an effective way to achieve excess returns over the long term in global equities, the same strategies used in Australia had not achieved outperformance.
Arian Neiron, VanEck's chief executive and managing director - Asia Pacific, said: “While single factor strategies work in global markets, in Australia they don’t work so well as the universe of companies is too small, too concentrated and there is a lack of variability over time.
“A concentrated market means that the lion’s share of performance is attributed to mega caps, limiting stock diversification and performance attribution to companies smaller than these mega-caps. BHP alone represents 11% of the ASX 200, which skews the performance of the overall share market.”
Stock and sector concentration and the limited size of the Australian equities universe were the reasons for factors such as ‘quality’, ‘value’ and ‘growth’ factors had not achieved outperformance in Australia, according to the VanEck whitepaper.
“The ASX 200 is also concentrated in sectors; financials and resource companies account for more than 50% of ASX 200 exposure,” Neiron said.
“This small size and concentration restricts the operation of factors. Australia accounts for less than 2% of developed markets performance benchmark MSCI World. MSCI World covers approximately 1500 holdings compared to 200 holdings in the ASX 200.”
Neiron said an alternative to factor investing in Australia was equal weighting.
“Equally-weighted portfolios have historically outperformed their market capitalisation counterparts over the long term due to the size bias which single factor strategies fail to harness.
“Equal weighting, as the names suggests, is a proportional measure that gives the same importance to each stock in a portfolio, regardless of a company’s size.”
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