How to build a factor portfolio: Does the allocation strategy matter? |
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Authors: | Hubert Dichtl Wolfgang Drobetz Viktoria-Sophie Wendt |
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Institution: | 1. Faculty of Business, University of Hamburg, Hamburg, Germany;2. BlackRock Investment Management Limited, London, UK |
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Abstract: | Factor-based allocation embraces the idea of factors, as opposed to asset classes, as the ultimate building blocks of investment portfolios. We examine whether there is a superior way of combining factors in a portfolio and provide a comparison of factor-based allocation strategies within a multiple testing framework. Factor-based allocation is profitable beyond exploiting genuine risk premia, even when applying multiple testing corrections. Investment portfolios can be efficiently diversified using factor-based allocation strategies, as demonstrated by robust economic performance over various economic scenarios. The naïve equally weighted factor portfolio, albeit simple and cost-efficient, cannot be outperformed by more sophisticated allocation strategies. |
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Keywords: | factor-based allocation multiple testing |
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