Smart Beta Made Smart: Synthetic Risk Factors for Institutional and Retail Investors

Abstract

We construct tradable proxies of "on-paper" long-short risk factors using combinations of large
and liquid mutual funds and ETFs, based on their holdings, for both retail and institutional
investors. Using a novel proprietary dataset, we are able to account for the ETF shorting fees
in constructing the short leg of the factors. In contrast with the recent literature, we find that
investors are able to harvest the SMB and part of the HML risk premia, although MOM and
RMW remain hard to replicate, with institutional investors outperforming retails. Our results
have implications for the benchmarks that should be used to evaluate portfolio managers.

Keywords: Smart beta, factor investing, tradable risk premia, shorting costs, borrowing fees

JEL Classification: G11, G12