Factor Investing with Smart Beta Indices

Abstract

The added value of smart beta indices is known to be explained by exposures to established factor premiums, but does that make these indices suitable for implementing a factor investing strategy? This paper finds that the amount of factor exposure provided by popular smart beta strategies differs considerably, as does their degree of focus on a single target factor. It also provides insight into how ‘quality’ and ‘high dividend’ indices relate to academic factors. Smart beta indices exhibit a performance that is in line with the amount of factor exposure provided, but it seems that they do not unlock the full potential offered by factor premiums. Altogether, these results imply that factor investing with smart beta indices is not as straightforward as one might think.

Keywords: factor investing, smart beta

JEL Classification: G11, G12, G14