Factor Investing in South Africa

28 Pages Posted: 5 Nov 2016 Last revised: 8 Nov 2016

See all articles by Emlyn James Flint

Emlyn James Flint

Legae Peresec; Department of Actuarial Science, University of Cape Town

Anthony Seymour

University of Cape Town (UCT)

Florence Chikurunhe

Peregrine Securities

Date Written: November 4, 2016

Abstract

Risk factors and systematic factor strategies are fast becoming an integral part of the global asset management landscape. In this report, we provide an introduction to, and critique of, the factor investing paradigm in a South African setting. We initially discuss the general factor construction process at length and construct a comprehensive range of risk factors for the South African equity market according to international factor modelling standards. In this report, we focus on the size, value, momentum, profitability, investment, low volatility and low beta risk factors respectively. We critically examine the historical behaviour and robustness of these factors, paying particular attention to the issues of long-only versus long/short factors, the impact of size, the effect of rebalancing frequency and data, and the robustness of performance to alternative factor definitions.

We also review how these factors can be used generally in risk management and portfolio management. In the risk management space, we firstly consider risk attribution to factors and introduce the Factor Efficiency Ratio as a means of quantifying a fund’s desired versus undesired factor exposure. Secondly, we consider returns-based style analysis as a means of identifying a fund’s factor style mix and also as a method for replicating existing indices with long-only risk factors. In the portfolio management space, we discuss several approaches for creating multi-factor portfolios. We start by considering the simplest case of portfolio mixing, which allocates to a set of predefined factor building blocks. We then review the integrated scoring approach, which accounts for multiple factors within the scoring process directly. Finally, we consider a mixed integer programming optimisation approach, which allows an investor to construct an optimal multi-factor portfolio that is as consistent with their return objectives and risk preferences as their constraint set will permit.

Keywords: risk factors, factor investing, factor modelling, risk attribution, style analysis, multi-factor portfolios, portfolio construction

JEL Classification: C01, C02, C21, C22, C31, C32, C51, C52, C53, C61, G12, G14

Suggested Citation

Flint, Emlyn James and Seymour, Anthony and Chikurunhe, Florence, Factor Investing in South Africa (November 4, 2016). Available at SSRN: https://ssrn.com/abstract=2864484 or http://dx.doi.org/10.2139/ssrn.2864484

Emlyn James Flint (Contact Author)

Legae Peresec ( email )

15 Cavendish Street
Claremont
Cape Town, Western Cape 7700
South Africa
27117227556 (Phone)

HOME PAGE: http://www.legaeperesec.co.za

Department of Actuarial Science, University of Cape Town ( email )

Actuarial Science Section, University of Cape Town
Private Bag X3, Rondebosch
Cape Town, Western Cape 7701
South Africa
+27 21 650 2475 (Phone)

Anthony Seymour

University of Cape Town (UCT) ( email )

Private Bag X3
Rondebosch, Western Cape 7701
South Africa

Florence Chikurunhe

Peregrine Securities ( email )

21 Main Road
Claremont
Cape Town, Western Cape 7700
South Africa
+27117227551 (Phone)

HOME PAGE: http://www.peregrine.co.za

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