Emerging markets (EM) have offered fertile ground for factor-based strategies, according to new data from specialist index firm, Scientific Beta.
The Scientific Beta analysis shows an EM index blending six “well-established equity factors” outperformed a cap-weighted counterpart by an annualised 3.4 per cent since June 2002 and more than 7 per cent for the one- and three-year periods to the end of March 2024.
And the outperformance of the multi-factor benchmark came despite higher trading costs in emerging markets of 12-times a cap-weighted index in developed markets.
Multi-factor investing carries higher annual turnover rates compared to cap-weighted styles of about 10-times more in developed markets and more than four-times in EM.
Featuring an average turnover of about 36 per cent each year, developed market multi-factor trading costs land at 0.03 per cent versus the cap-weighted charges of under 0.01 per cent (on 3.4 per cent turnover). By contrast, the Scientific Beta-built EM multi-factor index has a yearly turnover rate of 38.5 per cent against 8.7 per cent for the standard benchmark with respective trading costs of 0.12 per cent and 0.03 per cent.
“… the trading costs of a multi-factor strategy are an order of magnitude lower than the return benefits it brings,” a Scientific Beta release says.
Dutch quant manager, Robeco, for example, also found evidence for multi-factor outperformance in EM equities using a blend of just three ‘smart beta’ variables – value, quality and momentum.
The Scientific Beta EM index, however, blends value, momentum, size, low volatility, profitability, and low investment.
Erik Christiansen, Scientific Beta head of investment solutions, said in the release: “This approach enables us to build an EM multi-factor portfolio with strong and well-balanced exposures to all six rewarded factors, which delivers robust risk-adjusted performance over the long-term.
“In addition, an EM multi-factor investment strategy delivers a well-balanced portfolio, leveraging the benefits of decorrelation and the cyclicality of premia.”
Regardless of the multi-factor boost, EM shares have posted disappointing returns relative to broad developed market indices since 2011, albeit periodically offering investors hope of break-out performances.
For the 10 years to the end of March 2024, the MSCI EM index has returned an annualised 3.3 per cent against almost 10 per cent for the MSCI World.
EM stock benchmarks have fared better when measured against longer-term gauges, however.
Susan Rodgers, Scientific Beta Australia and NZ business director, said in the statement: “Over the period since 2001, EM equities have outperformed developed markets on a cumulative basis.
“Furthermore, this asset class provides diversification benefits to investors, as its returns have shown low correlation with those of traditional asset classes.”
Year-to-date EM index returns of over 2.4 per cent still lag the broader global benchmark performance of about 9 per cent.
Scientific Beta is a subsidiary of the Singapore Exchange (SGX) while retaining research links with previous owner, the French EDHEC Business School.