Factor
A factor is a characteristic that has been shown to contribute to market outperformance.
Updated June 2019
A factor is a characteristic that has been shown to contribute to market outperformance.
Research into factors was largely driven by academics trying to figure out why certain stocks tended to generate higher returns than theories about efficient markets would have predicted.
Subscribe to MoneyWeek
Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE
Sign up to Money Morning
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
For example, widely accepted factors include size (the observation that small companies tend to beat large firms over time); value (cheap companies beat expensive ones); yield (high- yielding stocks do better than low-yielding ones); and momentum (stocks that go up just keep on going up). To be clear, these factors will not always beat the market over any given time period but looking at historical data over the long run, they have generated superior returns in many different global markets.
"Smart beta" is one trend in the investment industry that tries to exploit both the rapid growth in computing power and the growing sense of disillusionment with active fund managers. Smart-beta exchange-traded funds (ETFs) promise to use computer algorithms to construct and invest in indices based on various factors.
So you might invest in a momentum ETF that continually rebalances into momentum stocks, or a value ETF that does the same for stocks viewed as cheap on certain measures.
One problem with the race to find new factors for smart beta to exploit is the risk of data mining if you look hard enough at historical data, you can find apparently meaningful patterns that are in fact simply statistical flukes.
However, it's fair to say that the most deeply established factors (such as those listed above) are widely accepted as valid although, as with value, whenever they endure a period of significant underperformance, there will always be people who question whether they still work, or if they ever did.
Sign up to Money Morning
Our team, led by award winning editors, is dedicated to delivering you the top news, analysis, and guides to help you manage your money, grow your investments and build wealth.
-
8 of the best houses for sale with libraries
This week: the best houses for sale with libraries – from a five-storey Georgian townhouse in Bloomsbury, London, to a 15th-century property with a library in a medieval tower in Lozère, France
By Natasha Langan Published
-
Investors pull money from UK equities as government warns of “painful” Budget
The government’s post-election honeymoon period has been short-lived, and investors are shying away from UK equities as a result
By Katie Williams Published