Good Diversification is Never Wasted: How to Tilt Factor Portfolios with Sectors

Abstract

Using large-cap exchange-traded funds (ETFs), this paper provides guidance on enhancing the performance of long-only factor portfolios through sector-based blending. The blending method builds ETF portfolios that optimize the factor exposure of sectors. We use the original factors of Fama and French as benchmarks. The results show that blended portfolios combine the diversification benefits of sector investing with the risk premia of factor investing, and so constitute a promising extension of pure factor ETFs.

Keywords: factors, sectors, portfolio diversification

JEL Classification: G11, C61, E44, G01