Equity Markets, Valuation, and Analysis

CHAPTER 17Smart Beta Strategies versus Alpha Strategies

Timothy A. Krause

Assistant Professor of Finance, Penn State Behrend, Faculty Advisor, Intrieri Family Student Managed Fund

INTRODUCTION

The concept of “smart beta” has attracted increased interest in recent years as investors seek superior investment performance based on a factor investing approach. Chapter 15 discusses the history of factor investing going back decades to the early 1970s to BARRA Advisors (now a part of Morgan Stanley Capital International, MSCI) (MSCI 2019) and in the academic literature provided by Fama and French (1993) and Haugen and Baker (1996, 2010). This phenomenon has now been actualized in the retail investor market for exchange-traded funds (ETFs) with the advent of smart beta ETFs. According to FTSE Russell (2018), global smart beta assets under management (AUM) grew from $280 billion in 2012 to $999 billion in 2017, a compound annual growth rate of 29 percent. Of these assets, 51 percent went to ETFs, with the remainder going to managed accounts and mutual funds. These investments focus on factors related to stock performance and weighting schemes that are not based on market capitalizations, which studies show have provided superior equity market returns historically (Haugen and Baker 1996; Amenc and Goltz 2013; Glushkov 2015; Arnott, Beck, Kalesnik, and West 2016). Smart beta is distinguished from pure factor investing because it is generally a long-only investment approach, while factor ...