Factor Research & Education

Exploring Dynamic Factor-Based Categorization of Alternative Returns – White Paper

By October 13, 2020October 16th, 2020No Comments
Dispersion within categories, appropriate peer groups/benchmarks, & measuring alpha. Exploring a new factor-based categorization framework.

The Investment Product Universe is Broad and Deep, Necessitating Some Form of Classification 
The mutual fund universe is vast not only in the number of offerings it makes available to investors, but also in the asset class and strategy exposures that the individual funds provide. US mutual fund assets as of 2017 amounted to roughly $18.7 trillion dollars in assets.1 This behemoth of a complex is difficult to navigate even with the existing fund category methodologies provided to the investor community by several investment research and consulting firms. In a universe of such complexity, a categorization or classification system is necessary to help distill these funds into common groups that share overwhelming asset class and risk exposures. Various classification methodologies have been proposed by some of the biggest investment product research firms in the world, and over the years, the number of new fund categories have significantly increased with the aim of being more specific given the dynamically changing fund universe and its more sophisticated offerings, namely liquid alternatives.

Categories Serve Many Types of Industry Participants in Varying Ways
Fund categories allow investors to make assumptions about the performance characteristics of the product, help investors search for the right investment products, help to judge the performance of an investment product relative to a peer group, and allow for monitoring of category flows, among other things. Investment analysts create “recommended lists” of investment products within each category. Portfolio managers rely on asset class research at a category level but then apply that research by choosing a product within that category. For example, an analyst might produce research using the S&P 500 or Russell 1000 indices in order to describe U.S. large-cap stocks, but a portfolio may be implemented using a mutual fund or ETF that resides in a “US Large Cap Equity” category…

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