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Smart beta wins out over active managers with institutional investors

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FTSE Russell’s 2015 Smart Beta survey, published earlier this year, showed that the take up of smart beta by institutions in Europe, particularly larger institutions, is exceeding that of the US.

This week’s webinar on the report featured Steve Artingstall, Senior Investment Manager, Railpen; Syed Haque, Director of Public Markets at UPS Investment Group; Stephen Miles, Head of Research for EMEA at Towers Watson and Neil Rue, Managing Director at Pension Consulting Alliance, Inc.
 
The report and the webinar open with the primary issue of smart beta – the lack of a clear definition. Rolf Agather, Managing Director of Research, North America, leader of the webinar and co-author of the report explains that this year the firm had decided not to try to establish a definition and just stick with smart beta as index based investment which is not cap weighted.
 
In more detail, the report defines smart beta as a term often used to define a broad range of investment strategies that are generally categorised by two types of exposures: strategy-based and factor-based.
 
Strategy-based exposures, the report says, are typically non-cap weighted, such as equal-weight or fundamental-weight indexes, while factor-based exposures seek to achieve a systematic source of return by capturing similar factor characteristics, such as momentum or low volatility.
 
The report considers that passively managed products based on these smart beta indexes offer investors new ways to tailor their exposures to specific market segments,
portfolio risk and investment beliefs.
 
And the survey figures showed a significant increase in uptake in smart beta. In 2014, 40 per cent of the survey respondents with an allocation to smart beta had allocated 5 per cent or less.
 
In 2015, 24 per cent had allocated 5 per cent or less, while 55 per cent had allocated more than 10 per cent to smart beta strategies.
 
Speaking as a European based institutional manager, Railpen’s Artingstall agreed that for them, there has been a greater use of smart beta in recent years. “It is consistent in that we have been increasingly moving towards adopting smart beta” he says. “Having used active equity managers in the past a lot of what they did was more cheaply and easily accessible using smart beta. Going forward, we are in the process of increasing significantly our exposure and broadening and deepening access to these drivers.”
 
Haque agreed saying that they had been fairly active in the sector for the last four years because it was more cost effective and they were better able to control the risks. “Going forward we will be actively looking at what factors we should be owning and how we should be combining them” he said.
 
In terms of the consultants, Towers Watson’s Miles said: “There is a lot of enthusiasm from large asset owners and the majority I speak to do some sort of implementation in this space. The advantages are apparent as the can have an in-house team to see what they are doing in this space but smaller firms struggle with implementation issues.”
 
The report and the webinar found that the growth in the use of smart beta is impacting on active managers. While smart beta was deemed something in the middle between active and passive, funds are certainly moving from the active managers to the smart beta sector.
 
Railpen’s Artingstall deems smart beta as active. “Our decision to allocate to alternative risk premia has come from what active managers do in a cheaper manner. It is more active and systematic, objective and rules based so similar to passive but we do definitely focus on that fact they are not passive in the classic sense of that word.”
 
He also confirmed the popularity of smart beta. “We have allocated a lot of capital away from active managers – it is the biggest source of capital we have allocated to smart beta strategies” he says.
 
Principal strategies of smart beta for institutions are low volatility and value and fundamental.
 
The popularity of low volatility is driven by the unease created by the global financial crisis; Pension Consulting Alliance’s Rue says: “We are trying to have clients not forget what happened in the last crisis.”
 
In terms of how long investors are holding smart beta strategies, most in the report said over five years.
 
Artingstall says: “As a pension fund, we have a very long term perspective but when we dug into the detail these things can perform badly for a long period of time so you have to put up with weak returns in return for risk premia and its difficult to know when it’s going to work so you have to diversify and have a long term perspective.”
 
 

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