Factor investing is on fire.
Investing based on factors such as value, quality, minimum volatility and momentum has taken off in the last few years, driven by increasing volatility and an encroaching sense on Wall Street that the 11-year bull market could be nearing its end.
Since the start of 2018, the iShares Edge MSCI USA Momentum Factor ETF (MTUM) has climbed nearly 32%, hitting a new 52-week high on Thursday. The iShares Edge MSCI Min Vol USA ETF (USMV) ran 31% over the same time period, also reaching a 52-week peak Thursday. Several of iShares’ other factor-based ETFs, including those focused on quality and value, have made double-digit strides as well in the last three years, as have Vanguard’s factor-focused counterparts.
But there’s one thing investors should keep in mind when chasing these factors, Jay Jacobs, head of research and strategy at Global X ETFs, warned Monday on CNBC’s “ETF Edge.”
“What we are saying with investors is don’t put all your eggs in one factor,” Jacobs said. “These can underperform individually. They have low correlation to each other. Get diversified, multi-factor exposure.”
That has been a common theme in factor investing, even as individual factors such as value still tend to outperform over longer periods of time. Take the iShares family of ETFs: While MTUM, USMV and the iShares Edge MSCI USA Quality Factor ETF (QUAL) are all up more than 60% in the last five years — with MTUM notching a 94% gain — the firm’s value-based fund, iShares Edge MSCI USA Value Factor ETF (VLUE), has lagged, up only 36%.
“There’s plenty of data out there that goes back 40 years looking at these factors and how they’ve expressed themselves, but they can still do long periods of underperformance,” Jacobs said. “It shakes out the fast money that doesn’t believe in value or doesn’t believe in momentum, and that’s ultimately what drives return in the long run.”
Value is currently feeling the heat of that as the stock market’s decade-long, growth-fueled rally rolls on, said Ed Rosenberg, senior vice president and head of exchange-traded funds at American Century.
“Since late 2008, early 2009, we’ve been in a growth environment, and that has sort of weighed on value,” Rosenberg said in the same “ETF Edge” interview. “Without any of that volatility, which is what value’s looking for to outperform over time, it looks like it’s always going to underperform. But there will be a cycle that we’re getting to, especially for the end of this bull run, where value’s going to come into play and having some in the portfolio is going to be important.”
“These [index-based investments] will be significantly underweight in value,” he said, adding that it’s worth asking: “When those start to fall, is that where I want to be?”
Armando Senra, who runs iShares Americas for BlackRock’s trillion-dollar ETF suite, flagged one factor his firm expects to outperform in 2020.
“For 2020, we do like quality,” Senra said in the same “ETF Edge” interview, adding that to determine what constitutes a “quality” company, “we look at stable earnings. We look at low financial leverage.”
But buyers will get “the ultimate investor experience” in one of Senra’s other funds, the executive said.
“If you look at U.S. [minimum volatility], I think that that gives you the ultimate investor experience because when the market draws down 20%, you’re down 10%,” he said. “So, you just stay invested, and because you stay invested, you have more chances of outperforming in the long term.”