Long used in equity strategies, factor investing has been far less common in corporate bonds, but that now looks set to change.
Using factors when investing in corporate bonds is still in its infancy. However, interest among investors has been growing quickly, and this type of investing now looks set to take off.
- There are various reasons for past reticence on using factors for corporate bond investment strategies
- Research shows that selecting corporate bonds on the basis of factors can result in risk-adjusted outperformance of market cap-weighted indices over time.
Equity strategies have relied on factors for decades
Factors are characteristics that play a role in explaining – and forecasting – the returns and risk of a group of securities.
Investing using factor research has been successful in equity markets. Of particular interest have been those factors assessing how cheap, profitable, risky or trending investing in a company is. This is because these are the factors that have been found to determine whether any given stock is likely to outperform its peers.
These factors have been the bread and butter of managers of active equity strategies using quantitative selection techniques. And, despite the occasional bad year, these managers have had successful track records.
Perhaps surprisingly, corporate bonds have not been looked at in this way. At least, not until recently. Our paper ”Factor Investing in Corporate Bond Markets: Enhancing Efficacy Through Diversification and Purification!” published in December 2019, discusses the topic at length.
