Smart Beta & Enhanced Indices

In the last few years smart indexing has grown in popularity with fund managers.Barney Hatt looks at what the concept means, what providers are doing with it and what use investors can make of it.

Smart indexing, or smart beta, is a set of strategies growing in popularity which can be seen as sitting halfway between traditional passive fund management and active.

Perhaps the most readily understood and popular smart index is an equity index based on company fundamentals rather than market capitalisation. This is where the alternative indexation concept has achieved the greatest traction.

A classic cap-weighted index ranks companies according to their market value. A fundamental index ranks companies according to their economic performance using metrics such as sales, profits, and even number of employees.

Is this investment strategy a secular shift in the way capital pools should be managed—or is it a marketing gimmick?

This, perhaps, is the most interesting question surrounding risk parity investing today. aiCIO took a larger look at this question in the October issue of the magazine (to read it—and about an intriguing dive into the nether-regions of Wikipedia—click here) but, below, we look at the hard data. How are today’s asset owners use, think about, and act on risk parity investing?

First, a warning: the secular shift versus gimmick debate won’t be solved here. If anything, it will become more confused. Comparing year-over-year results of the aiCIO Risk Parity Investment Survey—the only one of its kind polling current, potential, and non-users of risk parity products—shows that the battle lines are hardening over whether risk parity belongs in an institutional portfolio. While a slightly larger percentage of polled asset owners (26.2% v. 25.3%) said they have already allocated to risk parity products compared with a year ago, a slightly smaller percentage (20.5% v. 25.3%) are only considering its usage. Overall, the number not using or considering the strategy rose from 49.4% to 53.3%. Separately, 31% suggested that risk parity would outperform either an endowment-style or 60/40 portfolio over the next five years, risk-adjusted—down slightly from 38% in 2011, largely at the expense of the endowment model. Overall, our poll suggests a similar landscape to the contemporary Presidential election: attitudes stubbornly split down the middle, with battle lines hardening.

Perhaps the only thing certain from these results is the remaining uncertainty over whether we are seeing a secular shift in the way assets are managed. If nearly 50% of asset owners are using or considering the using a certain strategy, it could hardly be called a gimmick—unless you hold the view that 50% of all large institutional investors have been deceived by clever marketing and overtures from the likes of the world’s largest asset management firms. But read the rest of the results, and decide for yourself.

January/February 2013 CFA Institute Magazine

As we approach the end of 2012, the time has come to take stock of the last 12 months. 2012 has proved a fertile year for the European exchange-traded fund (ETF) and exchange-traded product (ETP)  industry, with growth in assets under management (AUM) well into double digits. Specifically, we’ve seen around 20% year-on-year growth in AUM based on data from the end of November. The ETP industry now has around €275 billion in AUM due to the virtuous combination of roughly €15 billion in net inflows and capital appreciation across broad asset classes. These figures compare very positively to 2011, which was a year that closed with a slight year-on-year decrease in AUM as net capital losses (mostly owing to poor equity markets) offset overall positive money flows.