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Paper finds that buying low and selling high is best smart beta strategy

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A new paper from Research Affiliates, by Rob Arnott (pictured), Noah Beck, and Vitali Kalesnik, looks at Smart Beta valuations and the problems with performance chasing.

The paper looks at investment timing and the benefits of contrarian timing compared with performance chasing. Contrarian timing can work, the authors say. “Emphasising factors or strategies that are trading cheap relative to their own historical norms, and de-emphasizing the more expensive factors or strategies can improve performance.”
 
Performance chasing is prevalent and damaging according to the study. “Most investors already practice a form of market ‘timing’—unfortunately in the wrong direction by chasing past performance. Trend chasing can erode the benefits of factor investing even when diversifying across different factors with recent strong results.”
 
The authors write that all intelligent investing is value investing. “Though contrarian timing is a form of value, it is not exactly the same as doubling down on value risk. Relative valuations may urge investors to invest in the value factor when value is cheaply priced and conversely, direct investors to avoid value when it is expensive.
 
They also advise investors to sin a little: “Although relative valuations provide a useful signal to time factors and smart beta strategies, it is prudent to apply it in moderation in order to avoid making the overall portfolio too risky from the loss of diversification.”

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