The jury is in: ‘smart beta’ is active management not a passive play.
In major annual shift in sentiment, the latest FTSE Russell global survey of the sector found just under half of institutional investors view smart beta – or factor-based investing – as an active punt compared to a third of respondents in the 2018 report.
At the same time, the proportion of investors lumping smart beta under passive allocation slumped from 32 per cent in 2018 to 21 per cent in the just-published FTSE Russell survey.
“Across all regions and [assets under management] AUM tiers, asset owners view smart beta allocations as more similar to traditional active strategies, and less aligned with traditional passive strategies,” the FTSE Russell report says. “This is perhaps why ‘concern about taking on additional risk’ was one of the few cited barriers to smart beta adoption that increased from 2018 to 2019—an indication that more asset owners acknowledge the active risk associated with smart beta.”
While both European and US investors are now much more inclined than last year to classify smart beta as active management, the survey found some divergence between the regions.
Just 16 per cent of European investors now class smart beta as passive (35 per cent last year) compared to 27 per cent in the US (down from 32 per cent in the 2018 survey). In Europe, however, 38 per cent of investors rate smart beta as a “distinct type of strategy”, almost double the 21 per cent of US respondents in the neither-nor camp.
Despite the growing realisation that the rules-based investment style carries active risk, the proportions of respondents with smart beta allocations jumped 10 per cent over the year to 58 per cent. Furthermore, about 20 per cent of those surveyed were either evaluating smart beta strategies or planned to.
Only 2 per cent of investors said they would cut back their smart beta exposures but growth expectations among the factor-based faithful have pared back substantially in recent years, FTSE Russell says.
“Back in 2016, over three quarters of asset owners with an allocation to smart beta expected to increase that allocation,” the report says. “This percentage has since steadily declined, and in 2019 was down to one half of respondents planning to increase their smart beta allocation.”
Over 70 per cent of those surveyed now have a multi-factor smart beta strategy in place compared to 49 per cent in 2018.
But as the multi-factor investing star continues to rise, the second- and third-most popular smart beta strategies – low volatility and value – held steady over the year at 35 per cent and 28 per cent, respectively.
Smart beta, though, is still yet to catch on among fixed income investors with just 11 per cent of respondents using factor-based strategies in the space and 16 per cent considering it (down from 24 per cent last year).
Rolf Agather, FTSE Russell head of research and innovation, said in a release: “Within smart beta, multi-factor index-based strategies have undoubtedly been the market’s favoured choice, with uptake more than tripling since 2015.”
Agather said the main reasons investors use smart beta remained mostly consistent year-on-year, headed by return enhancement (68 per cent), risk reduction (52 per cent) and diversification (48 per cent).
“Cost savings has held its spot in fourth place (31%) for the third consecutive year, suggesting that smart beta is increasingly being used in place of more expensive active strategies,” the FTSE Russell report says.
In a companion survey, the index provider also found environmental, social and governance (ESG) factors were increasingly important for smart beta investors.
Close to 60 per cent “of survey respondents are either implementing or evaluating ESG considerations in their investment strategies”, the inaugural FTSE Russell ESG report says.
However, the survey found a massive gap between European and US smart beta investors where 77 per cent of the former are either using or evaluating ESG factors: the same metric is 17 per cent for US investors.
Negative screening is the most common smart beta sustainable investing tool but almost half of large asset owners plan to use ESG data “akin to factors” to reweight portfolios, the study says.
The FTSE Russell surveys tapped 178 asset owners based in North America (46 per cent), Europe (29 per cent) and Asia Pacific (19 per cent) over January and February this year.
