How to Construct a Long-Only Multifactor Credit Portfolio?

Abstract

This paper examines how to combine single factors into a multifactor portfolio of corporate bonds. The two most common approaches in the literature are the so-called ‘integrated’ and ‘mixing’ approaches. This paper analyzes these two methods in corporate bond markets, and finds that the integrated factor portfolios generally lead to higher risk-adjusted returns. This is largely due to the fact that they do not invest in underperforming bonds that score poorly on a single factor, to which the ‘mixing’ approach is exposed to. Our results are robust over time and hold in different macro environments and in both Investment Grade and High Yield markets.

Keywords: Asset management, portfolio management, portfolio construction, factor investing

JEL Classification: G11, G12, G14