Frontiers of Factor Investing with Andrew Ang | ESMT Berlin

I used to be a professor together with York at Columbia University and I was there for 15 years and it was there as a professor and before where I did my PhD at Stanford where I took factor investing as an academic discipline in fact there are six Nobel prizes that have been awarded in the area of factor investing I was also inspired during that time to apply what we learn in academia to the real world to make a difference and I think that's the heart of SMT today and I was fortunate during that time to work with some very large investors particularly European investors and I've had during my time as a professor over a dozen years working with the largest fund in Europe the Norwegian sovereign wealth fund I also worked with other sovereign wealth funds in Europe and in Canada and in Australia and I learned during that time that it wasn't enough if you want to make a difference in people's portfolios to just live in an ivory tower we definitely have to study these but I would like to also make a difference in people's lives and to do that I realized that I had to come to industry and in 2015 I received an offer from Blackrock and I came to Blackrock primarily to put into practice everything about factor investing and I believe that we need three things four factor investing to be as influential as the previous transformations of asset management in the 1980s this was a story about data and technology and for the very first time we had personal computers and on that personal computer we had mean-variance optimization software and that made tangible diversification benefits we saw institutions move money from largely fixed income portfolios to beginning to invest in the growth opportunities in equities we saw the rise of what we call today the endowment model where we first started to invest in real estate and in other more illiquid asset classes we could construct portfolios because of these advances in data and technology in the 1990s we saw the adoption of indexation and today rightly so index market cap portfolios are the cornerstone of our portfolios they can be done transparently and at low cost providing benefits to millions of investors this indexation is a remarkable story I live in the United States I've lived there for 25 plus years and Americans I think the last thing that they want to do is to be average but indexation actually is all about being average now I'm a pretty short individual as you see up here president York who gave me the introduction he's quite tall and I would pay anything to be of average height in fact I would be better off being average and so market cap presents opportunities to empower our portfolios and what happened to the adoption of my could cap average was academics the asset owners themselves asset managers and consultants and regulators all played a very important role to transform the way that we invest the 2000s until today has been a decade two decades about the rise of new investment vehicles like ETFs the adoption of usage standards in Europe and most recently we see greater transparency and reporting of expenses through method all of that is about access through different investment vehicles together with regulation to demand transparency and lower expenses and it's these three that I realized was net these three things were necessary to take factor investing from academic theory to be as influential as there's previous transformations dotter and technology justice than the 1980s we also need outreach education the spirit of cooperation between academia and business and all that I call a second pillar of strategic partnership and engagement outreach in all of its various forms and the third is investment vehicles all the way from simple easy to trade vehicles like ETFs to much more complex more sophisticated vehicles more suitable for institutions and I believe there is really only one place that could offer all these three things my life as an academic was over and I came to Black Rock because Blackrock offers all of these three things so I'm here today to talk about factors and the very first the very first study on factor investing was written by professors at Columbia University the institution that president egg and I were at for many years and they were professors Benjamin Graham and David Dodd who wrote a book in 1934 called security analysis and that book was the first systematic investment treaties it was the beginning of the first factor study focusing on value factors are broad and persistent sources of returns broad means that we see these effects we can buy cheap companies we search for bargains across thousands of stocks and we can do this across thousands of bonds and we can even look at this outside in other asset classes even in a liquid markets like private equity or alternatives like commodities and foreign exchange the second word persistent means that these premiums have been persistently rewarded for decades 1934 was the first book on factor investing so we have decades worth of data we have scientific theories including Nobel Prizes one of my co-authors will gutsman and he's become a very good friend he's a professor at Yale University and last year he published a paper in one of the most prestigious journals in finance looking at momentum another factor in 1800s Russia that was actually a pretty big market in the 1800's and it disappeared approximately a hundred years ago but we have decades and hundreds of years of data on these factors so what I'm actually going to tell you today it's actually not new I think Graham and Dodd buying cheap or searching for bargains the best investors have always wanted to go out and find and participate in trends we have always especially here wanted to focus on the quality of investments because we know that not all earnings are the same and we prefer earnings that are more stable and based on operations than one of financial transactions we search for smaller more nimble opportunities and we want to gravitate to safety which we can do with minimum volatility strategies all of this is actually not new what is new what is new is the way that we apply these factors to investments now I run my life on my mobile phone and to be honest if I look at my mobile phone there's relatively little that's new because 20-30 years ago we had cameras we had maps we had hotels we had air lights we even had phones but the ability to put all of that onto a mobile phone pretty much everything that already existed has completely transformed our lives factor investing is that phone by taking these concepts of buying cheap and finding trends but now applying them across thousands of stocks doing it transparently pushing it to other asset classes like fixed income applying it in portfolio construction making it simple and accessible has transformed our portfolio just as our phones have transformed our lives so what I'm actually going to tell you is all about applications of the phone now a very good question about factors is if we've known about these for decades we've got Nobel prizes and we've studied this at Columbia University since the 1930s why would these well-known intuitive patterns of buying cheap and finding trends and finding high-quality names why should these persist we have seen these factors for decades of hundreds of years and we expect these factors to result in higher premiums making differences in our own portfolios because they are based on economic rationales they are all based on a combination of a reward for bearing risk structural impediments or behavioral biases let me just tell you a little bit about some of them and we'll start off with value because Jurgen I we were at the home of value investing now a value company reminds me very much of all all the Germans that I I know and they're industrious they're hard-working diligent but sometimes they get beaten up but in the long run we know that those qualities really pay off and look at Germany today during a late economic cycle like what we've been in over the past one to two years value tends to underperform you can think about a typical value company having factories or production lines you can't manufacture something new or change your production lines overnight and so these companies are relatively inflexible so they tend to underperform when you most want that flexibility at the late economic cycle or in a recession all of that fixed capital gives you economies of scale efficiencies or upper leverage and they tend to do very well coming out from recoveries over the long run we receive a value premium to compensate us for occasional cyclical losses that's a reward for bearing risk and because I'm an academic or at least a former academic let me just give you some jargon what I've just outlined intuitively in words refers to a real investment conditional Capon business cycle model with asymmetric and irreversible adjustment costs and there are hundreds of papers that use those jargon terms and study this in finance a second factor minimum volatility most of its economic rationale comes from structural impediments I live in the United States where people don't save a lot unlike Germany and there are many public pension plans that are underfunded they have severe restrictions on what they can do with the investments but they have very high total return targets the only way they can meet those high return targets is if they overweight high risk assets and then they underweight low risk ones giving rise to high returns of low volatility strategies this is a structural impediment that drives minimum volatility and finally we just have human behavior as humans we tend to over extrapolate we tend to overestimate probabilities of winning we tend to pile in into those types of investments that our friends or the media or others recommend and those give rise to momentum strategies these economic rationales are a scientific basis for forming our investments and they have explained why these factors have existed for decades and gives us confidence that they will exist for decades to come what would it take for value to disappear well it would mean that suddenly all of those value companies would have to immediately transform all of the affixed capital their factories and production lines and turn them immediately to something else and that's just not going to happen what would it take for minimum volatility to disappear while it will take all of those underfunded pension plans it would require injections of massive amounts of money and freedom on their investment policies and I don't think that is going to happen anytime soon and only if we change human behavior will we stop following trends of all the estimate probabilities of winning these factors are going to be with us for a very long time now I'm going to talk about about some of these topics here we won't cover all of them but I want to cover capacity because this is an exciting growth area and so a valid question even though these are B's based on scientific theory is how much capacity is there in the market I would also like to spend a little bit of time on time varying factors we've witnessed this because we just said that during a late economic cycle like where we are today value tends to underperform and then finally of like to talk about ESG environmental social and governance aspects and these dovetail very nicely with factor investing strategies so let's turn to this question of capacity this presentation is freely available and there's a few scientific papers that are dotted throughout and all of these can of course be referenced by you at some stage now the capacity question is an important one because factors have been growing at a very fast pace these are numbers for the United States the growth rates for Europe have been even faster today in the United States we have approximately five to six hundred billion dollars invested in factors delivered through ETFs and you can see that these growth rates 500 million today compared to about 350 billion last year can this continue what is that saturation point what's the capacity for these factors in our portfolios and I want to get at that in a couple of ways so the first thing that I would like to do is take the perspective of what I can do as an individual I can go by a factor Fudd and then I'll take the perspective of what others are doing in the market particularly active managers and I'm gonna rely just because we have a large data set very long Andy very extensive in the United States of active mutual funds and then finally I'd like to because this is an academic institution give you a little bit more of an academic perspective based on some calculations from an equilibrium model actually it's a no arbitrage a fide model to be exact so let's turn to the first one what I can do as an individual is I can go by a factor fund like by a factor ETF and if I do that that money has to be put to work and ultimately that investment or fund is going to have to purchase some securities preferably those that are cheap that are trending with high quality names those that are smaller and more nimble securities and with more stable returns those are all characteristics of factors now if I buy a security I incur transaction cost and these are actually transaction cost curves they slope upwards because the more that you buy the more that you pay in transactions costs this actually is the transaction costs that's faced by our firm on June 26 in a 20 June 14 2016 for buying Apple now we can use these transactions costs to answer this capacity question because the more money that goes into a fund the more your transactions costs so this suggests that one estimate our estimate of capacity is we're going to find the amount of money that can go into these factor funds such that the market frictions associated with those new inflows they increased to a point that they cancel out the historical high returns that we've observed in fact two strategies this is actually an implicit equation that we're solving and we're going to solve this for every single stock with The Associated transaction cost curves and we're going to add up all the new inflows such that the transactions costs are going to wipe out the historical factor premiums those numbers are very very high the associated numbers with these are around trillions of dollars and we just saw the numbers that were invested in this today which is about 500 billion in the United States so we are very far from saturation multi-factor combinations in fact have capacity well in two single-digit trillions of dollars now we can actually see some of that if we look at where we are with factors relative to the whole market this is the this is the S&P 500 it's around 27 28 trillion dollars and that very small circle down the bottom that yellow one is where we are in factors so put this into context if you take market cap index or active funds of the United States they are orders of magnitude larger those are the two larger circles the blue one and the pink one so we have substantial ways to go before we hit capacity now that's what I could do as an individual as I could go by a factor fund but another way to view capacity is what others are already doing well there aren't that many people still invested in these factor funds but I can go a little bit further and I can take all of the holdings of active funds in the United States these are classified as active mutual funds that are tracked by Morningstar I'm gonna take Holdings level data and we're gonna split up the active returns of these funds that's the return of the fund - the status stated benchmark in their prospectuses and we're going to estimate three components the first one is static factor exposures for example a value manager almost by definition should be exposed to the value factor the second component is we can look at time varying factors in fact time varying components of different types and then the third one is true security selection ability now a thought experiment is I could take that first component of static factors and change them from relatively expensive and more opaque traditional mutual funds to relatively cheap completely transparent and easy to trade etf's and if I do that I actually haven't changed in anything because the factors are already being done but I have I think made significant progress in investor welfare for our clients that first component is around two and a half trillion dollars out of approximately three and a half trillion dollars of active funds in the u.s. substantially more than the current amounts being invested today there is one factor that's shown here which is very interesting and it turns out that active managers don't really hold stable stocks well why well if I have a benchmark to beat the way that I beat that benchmark is by taking on risk so I'm actually long risk well if I'm long risk that means I have negative exposure to low risk and that's what this graph is showing here so another estimate of capacity is I could measure what it would take to move from that negative exposure for low volatility back up to neutral alright and that's an estimate of capacity and that represents a movement of around seven hundred billion dollars now the final estimate for capacity we're going to appeal to an economic model I've got some here's some statistics which look at market capitalization of value stocks those that are cheap versus expensive stocks and the value stocks are down on the bottom and they're around ten fifteen percent and the expensive stock market capitalization is on the top and you can see that that's substantially more around fifty to sixty percent but simply there's not enough money in cheap stocks but cheap stocks have long run returns so we're going to estimate an economic model technically this is called a pricing kernel and the way that these pricing kernels work is as follows it's very similar to a seesaw so what we're actually going to do is we're gonna see that value stocks we said that there's not enough money or capital devoted to those but they have high returns the pricing kurtal is going to operate as follows when more money comes in to those funds to the cheap value factor Fudd's those prices are going to increase and as the prices increase we can think of prices coming up but the returns of these stocks the payoffs remaining constant so as more money comes in prices increase the cash flows for these stops remain the same and we've shrunk the difference between the price and the pay of these securities more money coming in means prices go up and expected returns go down but if I buy something like the cheap stocks I have to sell something else so let's sell the expensive stocks the expensive stocks have low returns that means that there's not much of a difference between the price of that expensive stock and the payoffs or the cash flows of those expensive stocks as I start selling money comes out and those prices go down and they go down such that the difference between the price and the payoff increases so as money goes out prices go down and expected returns go up and actually this calculation is made formal technically we're going to assume a linear pricing kernel and then estimate the amount of capital transfer such that those factor premiums would go away it is substantial the amount of capital that is required so we're going to do some thought experiments in the farmer and French dataset which goes back to 1925 the value premium is approximately 4% per year right that's huge that's a huge number particularly in today's and varmint of very low rates and we said that there's not enough capital in the value that's that fifteen percent number up there imagine if we transferred all of the capital from the expensive stocks right that's the growth ones and we're going to transfer all of that to value well according to our C store the value premium is going to shrink and it shrinks from 4% to about two so it's still there 2% over many decades is a very meaningful figure there are some factors like momentum which barely budge and we look at the momentum premium it's even higher than the value premium so that number is around 8% and if we transferred all of the money from those stocks with a negative momentum to those stocks with positive momentum well the momentum Trivium will shrink but it barely budges from 8 percent down to around 6 to 7 so by all these calculations what I could do myself fire transactions costs what others are doing the different client tells in the market and then finally economic equilibrium models capacity in this rapidly growing market yes it is rapidly growing for all reasons that we know about the capacity of factor investing is enormous now let's talk about time varying factors because what we've done here our long-run equilibrium computations in the long run there is massive capacity in the short run well these factors vary over time so let's look at how we might take advantage of that time varying factors we just said that over the past couple of quarters value hasn't performed so well Sonam cumulated return graphs that's the bottom green for the United States on the left and for the world portfolio on the right there are some factors that have done very well so the orange line that's been quite steady in 2019 well that's a quality factor actually you might expect that if we're in a very late economic cycle where we actually see some evidence of slowdowns in Europe and in Asia then probably you'd prefer to hold stocks that have lower leverage that have more stable earnings and those stocks that have higher productivity as measured by our OE and indeed that is the case quality has outperformed during these uncertain times so how might we take advantage of these time varying factors in some papers that we've published we've developed a model and I'll just talk about some of those signals that we use we look at valuations and relative strengths all assets including factors become rich or cheap and they have trends up or down and we can take advantage of these trends or valuation and factors just as we would in other investments we talked a little bit about the economic cycle and we said that during recessions or at the late economic cycle value tends to underperform and we've actually witnessed that in 2019 but during that time other factors the more defensive factors tend to outperform in 2019 quality did very well minimum volatility over the business cycle should also tend to outperform during the late stage or during recessions this is the time that we should be wanting to take risk off rather than putting risk on after we've had that slowdown then we enter a recovery smaller stocks have large exposure to an economy that is improving and we also said that value stocks have large economic efficiencies and that makes value tend to perform coming out in the recovery periods the economy then settles down into trends and the trend factor Momentum's does very well in the latter stage of a business cycle and then finally we get to peak and that's the time that we should move back into minimum volatility and quality well where are we today how are we positioned with these factors today we are overweight quality we have underweight positions as you can see in the last column in momentum and a large part of that is where we are today in the business cycle in that first column we are at this late stage economic cycle which means that we prefer the more defensive factors of quality and minimum volatility but we only we don't look only at the business cycle we also take into account some of these other indicators so some factors are very cheap value did not do so well in 2019 so the price of value has decreased to a point that yes actually there is value of value and then finally we look at how well those factors have done recently in the relative strengths and that gives us our final under and over weights to these factors in the last column today we along quality in the United States in Europe that in our global models all right let's talk now in our last ten minutes about ESG and factus okay I want to recall why these factors exist why we've had them for decades why we've had thousands tens of thousands of academic papers they're all based on an economic rationale there are four criteria behind the factors and the most important is the economic scientific basis the reward for bearing risk the structure impediment and then and behavioral bias but that's the realm of academia to make a difference in people's portfolios we would also want to have large evidence empirical evidence to back up that economic academic theory we also would like differentiated returns particularly with respect to play in vanilla market capitalization equity and fixed income benchmarks and finally we want to pass on these costs and the advantages of transparency to all investors certain but not all ESG will satisfy this criteria an obvious one that doesn't his renewable green power which almost by definition is not that scalable and it's not very cheap so is ESG a factor it does not satisfy all four of these criteria but that does not mean that we cannot embed ESG into the factors themselves so not all ESG criteria will satisfy these and not all ESG a criteria in particular will stem for an economic rationale but some ESG data and signals do for example if we look at the e4 environmental then whether a climate treaty is adopted or a carbon tax is adopted that is a form of market structure and to the extent that it falls under that structure impediment perhaps some of these signals may be useful in forming factor portfolios we talked about investor behavioral bias but there are other behavioral biases as well from employees or managers and even regulators or for all market participants all participants in the economy and to the extent that certain s or social variables will play into that then some of those may be useful in forming the factor definitions and then finally we have the reward for bearing risk some G's for governance actually will reduce risk if we can lessen agency frictions if we can align incentives if we can make managers divest less and put those funds to other stakeholders for the company well we're actually going to reduced risk and to the extent that certain G variables will play that role then perhaps we can incorporate them into the definition of factors it turns out that the factors are already ESG friendly these are correlations of factors with ESG scores minimum volatility and quality in particular already have significantly better ESG scores than the market portfolio than the average company there is one factor that does not and that is size and most of that is driven by the biases in the ESG data because generally speaking you have to be a pretty big company to report any of these she scores and if you don't report which happens to be much more the smaller companies then by definition because you're not reporting those ESG that ESG data you tend to have a lower score I believe that will probably change over the next couple of years but because there are factors that there are have significantly better ESG profiles than the market it turns out that a multi-factor combination of all of these factors here value quality momentum size and minimum volatility tends to have significantly better ESG scores and also lower carbon emissions than the market portfolio so if you're a factor investor and you buy cheap you find high-quality names and you would like lower volatility returns you are already an ESD friendly investor but we can actually go further and I want to talk now about how we can embed some of those ESG data into the factor definitions we're doing this in live money today at Blackrock these are already incorporated into our factor definitions and the first one that I want to talk about is green intangible value now intangible capital is becoming more and more important for companies in fact I think it's B you'd be hard-pressed to find a leading company where all of its assets were in brick-and-mortar or on fixed physical capital of machinery a lot of the capital of a company today is intangible patents are very interesting data set because patents represents the monetization of intellectual capital put simply this is all about the mind rather than surely things about brawn or fixed capital machines so the patents actually are useful in of them themselves to make a stab at intangible value for a company this chart shows a more traditional measure coming from a balance sheet and earnings income statement which is research and development expenses now research and development is a pretty good thing for a company you want a company to invest in R&D and therefore lead to more profitable opportunities the patent data set well patents usually are captured in the traditional earnings income earnings income statement or the balance sheet but there is a relationship and you can see that R&D spending tends to go up before the award of the patent which is classified here as event time 0 indeed some patents are the result of dedicated R&D spending what's also interesting is that R&D continues to go up after that patent is rewarded perhaps as a result of a company trying to monetize or commercialize that intellectual property so I just want to state here that patents are an alternative data set and they are linked and complementary to the traditional income and balance sheet variables that we tended to use in forming these factors signals going further patents are filed in different classifications there's fields these are harmonized worldwide by the World Intellectual Property Organization the most influential patents will be filed in a certain field and actually have influenced way beyond in some fields totally unrelated to that patent one of them that touches your lives every day is Google's PageRank algorithm that was a patent and now that algorithm that patent is cited in fields completely different to computer search in sociology and economics it's highly influential some patents are filed under classifications that correspond to UN sustainable development goals those are called green patents there are green patents brown patents white pads and other types of patents those green patents have incremental predictability above and beyond just using patents as a measure of intangible value the intuition behind this is that there are many ways of generating profitable opportunities for a firm but the UN sustainable development goals these are challenges for society but they also represents great commercial opportunities because if you can solve the problem of delivering clean water of delivering green energy well not only are you going to contribute to problems for society but you have the opportunity to also make a lot of money and so it's not surprising that if we could look at green patents and what we're doing here is Counting the number of green patents awarded to different companies controlling for secretary and country and a few other transformations but those companies that invest more in these UN sustainable development goals as represented by intangible value through patents they tend also to generate returns high returns so this is a measure of value but it also happens to be ESG another example is culture and I have to admit that when I was a Business School professor I was in finance and I spent a lot of time concentrating on my field of economics and finance and probably not so much in marketing where in my real job at a company today is extremely important I spent less time as an academic on accounting which at a real-world company is extremely important and I also spent less time on organizational back leadership which in a real wall company is also extremely important partly these are all lost opportunities that I should have taken far more advantage of when I was a professor but one of the reasons why is that corporate culture is undeniably important but it tends to be more qualitative and anything that is more qualitative well it's harder to study because you don't have quantitative information behind that that you can do rigorous analysis a breakthrough is a paper written by three professors one of them in Europe the first one and then the last author Luigi Zingales is a friend and he's at Chicago this paper quantifies a usually more qualitative element it quantifies corporate culture and it does so by looking at five pillars the fillers are listed here innovation integrity quality respective teamwork and what we've done is follow some principles outlined in this paper of course we adapt and we've have our own proprietary algorithms and code but we're going to go through 10,000 broker reports that our firm receives every year these are text information and we use machine learning techniques to process all of that text to come up with words that are similar to and fall into these five pillars the way the algorithm works is a word like integrity you have a seed list and so integrity would be associated with transparency or accountability and there would be a couple of other words that you'd start off and seed that algorithm the algorithm actually learns these are called deep learning algorithms the algorithm learns words that are adjacent to and puts more words in as it reads through all these documents coming up with a dictionary and then we can count adjusting for the word composition and the word frequency in lengths of each of those broker reports and we can count all the words in those dictionaries to come up with a quantitative measure of culture and when we do that well is this ESG absolutely its ESG these are evidence of things that are social and they're related to governance they are also a form of quality non-financial quality and we can add non-financial quality to the traditional financial quality things like what we talked about earlier variability of earnings leverage ratios we might look at cash flow components of those earnings we could also look at our OE we can add this corporate culture to the more traditional financial quality coming up with a new signal that embeds ESG this is a recent paper that we've just released its called ESG in factors it's not on this list here please please ask es MT it's also available online so we're very happy to pass on this paper to you so factors are broad and persistent sources of returns they've existed for decades they have impeccable academic qualifications what's new is imply applying these to our portfolios there's ample capacity the growth rates are fast because these are scientific backing transparency and we can deliver these at low costs they play a really important role in the way that people can save and finally ESG and factors well they can dovetail and go together and ESG opens up many more opportunities for factor investing but we are committed to these intuitive economically based styles of investing thank you very much [Applause] yeah thank you very much Andrew for a very fascinating inspiring discussion we have a couple of minutes for for questions and answers and in particular I would take maybe the last comments you take you gave so first of all there is a very positive view on you could say the democracy of capital markets when it comes to what you do and how you offer it and the second one and that might be even a stronger statement at this point of time it seems to be that factor investing or you could say capitalism can be able to heal itself when it comes to to es3 based on say biases or other factors could it even be that with the strong movement we now see on the streets and everywhere so say the biases towards the e becoming even stronger these effects also to become stronger maybe even combined also was a patterns that you described I would say that you are much more qualified to have an opinion on that then than me but I will say that the purpose or vision that we have for factors is to democratize access to broad and persistent sources of returns and that's our mission statement and all these factors they used to be only available to the most elite usually very large and sophisticated institutions even as little ago as as 10 15 years but what's happened is we can take all of these concepts of buying cheap and finding trends they don't have to be for the large sophisticated institutions they're really for everybody right and this is probably as I said in my opening remarks that's probably something that in particular in this country as huge value seeing these high savings rate combined was below average financial wealth and therefore means the so the the 'part the the patterns is is also obviously a very interesting inside so what you see on this side a trend that you can observe already from the fact that how much emphasis has been given on e also in public discussions well I really like I think to take a broader view where I think this is just the next manifestation of taking on factors at the very first we talked about Graham and Dodd from you know our old legacy and at that time accounting standards were not were that well accounting data was not standardized even looking at Book value was a very new thing for for Graham and Dodd and then we had standardization a couple of decades later so everything there was actually new even just looking at financial statements to assess a company rather than you know just walking through and shaking a manager's hand right this was completely new in the 1930s and then we also had during the 70's and the 1980s the first ability to take on big data we had initially tapes literally tapes that we had on on mainframe computers ed factor investing led the way and then we had large data sets that you actually couldn't fit onto a single floppy disk and it was state-of-the-art to actually push factors into what was at that time innovative and big datasets and today while we've just seen it that I think we're gonna go beyond now and we're going to talk about integrating all this ESG well certain ESG metrics that will always come in into these factor definitions so I I completely agree with you that this is such an exciting field I just view it now as the next stage where factors have always been at the forefront I've maybe one related question to what you just said regarding balance sheets so when we talk to CA CFOs today many of them tell us that well they prepare the financial statements and now exaggerate obviously the investors don't care so they don't care about the numbers per se but rather they care much more about what is the outlook given that we are in a disruptive it doesn't matter too much how few we have done and what is in there but rather how you can take the next step in in development when you take this from your central banks - yeah right right I mean so when you take this from your perspective how do you take this into account maybe Big Data or other aspects or culture or other some of these aspects yeah it's very interesting because I said that we were looking at textual analysis in the very last thing that we talked about to quantify culture and there's lots of text that's produced by companies including text that is submitted to a regulator so you'd have a filing in the United States to the to the SEC and it turns out that the information content in those regulatory filings worldwide is lower and the textual information that's produced by broker dealers or by the financial press okay maybe one more question and then obviously if we're also happy to take a question on the floor but maybe one more from my side now you said which is also very impressive that the capacity for doing more effect investing is actually pretty significant at the same time we see when we when you include the passive investors the pure say appear index funds you also seen our discussion on what it means for corporate governance more moreover so this means how much of interference is there really from investors with what is happening was in the company now one obviously could say that the governance could also come from the factors that in a more indirect way in by in valuing things that also societally or in other ways it's good how do you what do you make out of this discussion of corporate governance in light of an increasing share of private say sorry of passive investors yeah this is a great question and I'm gonna give here personal remarks and I think the difference here between a purely or traditional index or passive with a traditional active approach actually they're all becoming blood and the active managers they have I would say 10 two more exercise certain corporate rights than the passive ones but we see some shift in there and then the ability of access and vehicles plus trading costs have have caused some structural outflows from those traditional client tells at the same time the index manages all the passive managers have enjoyed just tremendous efficiencies and passing a low costs and transparency to investors they have not traditionally exercised corporate corporate corporate corporate rights associated with their votes and so I think it's a little bit it's very interesting that these things are blurring where the index or the passive managers have to become more active the active managers well they have to recognize that that landscape has changed and the access to investments the ultimate transparency in the low costs well those are as important now today as what their traditional active investment activities have been and I think probably in a few years time we'll just see almost a complete merging of these of these effects which again it's looking at the sheer size of the the volumes which would be a great I mean it's in your bread but a grand revolution of financial I think I think the whole area we've we've gone off into an incredible journey that just increases all of this just simply increases investor welfare thank you so are there questions from from the audience yeah please we've also a microphone second I even an alum of this Business School the underperformance of value has certainly made investors skeptical and in an article September 2018 you've mentioned that values an underdog and you would probably do make a comeback when you expected the question is 16 months later or 14 months later do you still see values an underdog and when do you see it making a comeback I am a value investor and precisely because values sometimes fails we are rewarded with a long-term value premium if we look at the worst episodes for value and we have data academically thanks to farmer and French so Eugene fama and as longtime co-author Kenneth French that starts in the 1920s in almost a hundred years of data this value drawdown is the sixth worst one so that's pretty amazing so it's not unprecedented but it's certainly severe the worst one is actually during the late 1990s and then we also have other bad periods during the 1930s we had some bad episodes in the 50s and 80s but they were all characterized by being either at the bottom of a recession or late economic cycle which we are today one of the differences of today is we are approaching not yet but we are approaching one of the longest durations of that drawdown so there's both a magnitude and then how long it lasts we're not at the longest one yet but it's certainly been being prolonged and I think one of the differences for today is we were late cycle we are late cycle today but we were also late cycle a year ago if not longer and I think you can argue for various aspects of why this business cycle has been so prolonged perhaps a large central bank located in our German city plays some role in that as with other policy authorities worldwide and then we also have some fiscal policy effects particularly from the United States but that I think is what's unusual about today economically we should expect value to underperform during a late economic cycle or in to the bottom of a recession why it's being just so prolonged I think is is an interesting academic topic I saw one more question oh yeah please hi my name is Anna I'm thinking more about the perspective that society is on when you talk about Blackrock what was missing to me today was a little bit perspective why Blackrock is having a big influence on politics especially like they are planning to have foolish maths here as a Chancellor and even my call is kind of having that kind of influence by Larry Fink and why is that and how we are gonna be influenced by that in perspective I'll just say that I think all companies including Blackrock we as modern corporations have to have a purpose and our purpose includes being involved in all aspects of society and that's being made very evident you know most recent CEOs letter and we would like to engage at every single level and I don't think that that's not only true for Blackrock but I think for any modern corporation that seeks to have a real purpose and ability to progress Society in the wall that that were where we're in that we're in that company so one more yeah please wave it so one more question thank you my name is Luciano just a easy question you told us that actually the factor investing is basically at the early stage makes more room to grow what do you think what what which dimension can reach the factor investing the next five years in terms of business couple of trillions thanks well I certainly hope it will be a couple of trillion but I actually wanted far more reaching than that I want factors to be so prevalent that when you sit down with a financial adviser or it could also be with a machine with a robo advisor and you decide on your life sculls and you'd say I'm really worried about losing my job you're making a statement about a factor because you want to protect your capital and there are factors like quality and minimum volatility that help you do that well you sit down and you say I really would like to save for my children's education and that means you want return enhancing factors and there are factors that will help you to do that like momentum and value and I want factors to be as a way to implement your goals and with developing software relationships and all of the education required to do just that the flows in financial products associated with factors with all the advantages of low cost and transparently yes they will benefit too but my measure of success is a complete sea change in the way that we view savings altogether so maybe the yeah the last question please and yeah thank you for the great presentation when I'm single penny sent from whites moments a toot I understood that the great strengths of smart beat and all these investment strategies is that it's autumn I stand so accessible to all imagining that this would become very big is there a way for companies to sort of game this this idea so that they modify their what they optimize the balance sheets the way that your algorithm catches them for investment or more specific for this ESG factors that they have just spur more news about like ecological advances and stuff like that yeah this I would say you will you can mitigate but the real defense is in taking cheap stocks across the universe of thousands and not relying just on one company we can also mitigate this effect by using more than one measure so if you only rely on measuring cheapness by one particular financial variable well that financial variable could be gamed but if you use several especially those that are tangible like cash flows for example then that is less of a concern and if you go further to some of the variables that we talked about at the end which include other alternative measures then I think that management by a company that becomes even even harder so the defenses are that you diversify as wide as possible in your portfolio and you also diversify in the signal set to construct that factor so now let's say if a very last question yeah a couple of years ago had the pleasure to listen to your presentation when you release your book and one of the messages was that investor students in too much in terms of vector timing just rebalance and now you presented a whole metric according to which you time defect during an economic cycle so have you changed your mind with respect to factor timing or the possibility of factor timing we've always believed with actually a large body of academic theory that these does vary over time the approach though and the question for what investor ought to do I think is a very investor specific one just as the amount of equities that you should hold in your portfolio is a very specific question for an individual so for many investors I don't think you might want the time at all the best thing is to hold a diversified portfolio put in stocks and bonds maybe some other asset classes within equities with in fixed income let's take on these factor premiums and then simply rebalance rebalancing actually is a form of timing because you sell the things that have gone up and you buy the things that have become cheaper and for most investors that form of timing that's sufficient for certain investors with the right risk tolerance perhaps with the right governance structure for an institution then there is a possibility of generating incremental returns but again the appropriateness of that would be a very specific investor question I do believe that it is possible to add value modestly and with humility by harvesting time-varying factor premium good thank you very much thank you very much possible for your access contribution [Applause] yeah and obviously I want to add thank you very much Andrew for all the thoughts they are inside also for being so for all the questions thank you very much and before actually before you we can give a final applause to Andrew and there is the option to continue these discussions there will be snacks served here just on the floor thank you [Applause]

Channel: ESMT Berlin

Views: 3,438

Rating: 5 out of 5

Keywords: ESMT Berlin, ESMT, Berlin, Business School, International study, factor investing, investing, investment, blackrock, andrew ang, open lecture

Id: z-HHsUfc1C8

Length: 70min 33sec (4233 seconds)

Published: Wed Feb 12 2020