Fundamentals of Efficient Factor Investing

Financial Analysts Journal, Vol. 72, No. 6 (November/December 2016)

Posted: 10 Jun 2015 Last revised: 12 Oct 2016

See all articles by Roger G Clarke

Roger G Clarke

Harindra de Silva

Analytic Investors, Inc.

Steven Thorley

BYU Marriott School of Business

Date Written: October 11, 2016


Combining long-only-constrained factor sub-portfolios is generally not a mean-variance-efficient way to capture expected factor returns. For example, a combination of four fully invested factor sub-portfolios — low beta, small size, value, and momentum — captures less than half (e.g., 40%) of the potential improvement over the market portfolio’s Sharpe ratio. In contrast, a long-only portfolio of individual securities, using the same risk model and return forecasts, captures most (e.g., 80%) of the potential improvement. We adapt traditional portfolio theory to more recently popularized factor-based investing and simulate optimal combinations of factor and security portfolios, using the largest 1,000 common stocks in the US equity market from 1968 to 2015.

Keywords: Portfolio Theory, Factor Portfolios, Factor Investing, Portfolio Constraints, Smart Beta

JEL Classification: G11

Suggested Citation

Clarke, Roger G and de Silva, Harindra and Thorley, Steven, Fundamentals of Efficient Factor Investing (October 11, 2016). Financial Analysts Journal, Vol. 72, No. 6 (November/December 2016), Available at SSRN: or

Harindra De Silva

Analytic Investors, Inc. ( email )

555 West 5th Street
50th Floor
Los Angeles, CA 90013
United States
213-688-3015 (Phone)
213-688-8856 (Fax)

Steven Thorley (Contact Author)

BYU Marriott School of Business ( email )

616 TNRB
Brigham Young University
Provo, UT 84602
United States
801-378-6065 (Phone)
801-378-5984 (Fax)

No contact information is available for Roger G Clarke

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