Factor-based investing has been gaining traction among Indian investors over the last year. The advantage of factor-based investing is that it combines the benefits of both active and passive styles of investing. The most popular factors available today are largely based on alpha, value, momentum and low volatility. However, single-factor investing comes with cyclicity in terms of performance. Addressing this drawback is where multi-factor investing comes in.
Multifactor as the name suggests is a combination of two factors. For example, Nifty Alpha Low-volatility 30 is a multi-factor index based on two different factors namely alpha and low volatility. Alpha is excess returns over what is normal and low volatility is reduced price fluctuation than other stocks in the universe. This index consists of 30 stocks chosen from a universe of Nifty 100 Index and Nifty Midcap 50 Index. The filter here is that the stock chosen should not only have outperformed the broader market but also should be relatively less volatile.
The index methodology is factor weighted (Alpha 50 percent + Low Volatility 50 percent factor scores) and is rebalanced semi-annually (June and December). Such rebalancing ensures that the index captures the changing market conditions optimally and increases the weight to outperforming sectors which have relatively less volatile.
As of August 2021, consumer goods, IT and pharma are the top three sectors of the index. The individual stock weight in the index is capped at 5 percent which helps ensure that there is no concentration risk. In terms of returns generated, the index has a terrific performance track record. The index has outperformed the broad market indices in 8 out of 11 previous calendar years. (CY 2010 to August 18, 2021).
When looked at the performance even for longer timeframes like 7 and 10 years, the performance of the index emerges to be much more superior. The NIFTY Alpha Low Volatility 30 TRI generated a CAGR of 20.2 percent as compared to 14.2 percent of Nifty 50 TRI and 14.6 percent of Nifty 100 TRI.
As a means to help the investors benefit from the potential this multi-factor index presents, there are ETF and FOF available based on the Alpha Low Vol 30 index. The FOF structure ensures that investors without a demat account too can invest in an ETF through lump sum or SIP, as per one’s convenience. Also, the product enjoys equity taxation.
By gaining exposure to multiple factor strategies, investors can achieve greater diversification and become less reliant on any one factor to drive returns. Owing to these benefits, globally too, investors are increasingly gravitating towards multiple factor strategies. So, if you are an investor who is looking to invest in equities but does not have the stomach for market volatility, then this offering could come to your aid as this index tends to exhibit lower performance swings. Furthermore, the combination of alpha and low volatility helps an investor with the best of growth and stability.
The author, Harshvardhan Roongta, is CFP at Roongta Securities. The views expressed are personal
First Published: IST