Please use this identifier to cite or link to this item: https://hdl.handle.net/10419/287676 
Year of Publication: 
2021
Citation: 
[Journal:] Journal of Asset Management [ISSN:] 1479-179X [Volume:] 22 [Issue:] 6 [Publisher:] Palgrave Macmillan UK [Place:] London [Year:] 2021 [Pages:] 464-487
Publisher: 
Palgrave Macmillan UK, London
Abstract: 
Despite extensive research support, the role of diversification in current factor investing strategies remains neglected. This paper investigates whether well-designed multifactor portfolios should not only be based on firm characteristics, but should also include portfolio diversification effects. While the alpha concentration approach mainly considers factor-specific firm characteristics, the diversified approach utilizes covariance estimators in addition to firm characteristics to account for portfolio diversification. The corresponding out-of-sample results show that including an efficient covariance estimator improves the performance of long-only multifactor portfolios compared to the pure alpha concentration approach. A particular advantage of diversified factor investing strategies can be identified in the significant increase in exposure to the low-volatility factor represented by firm characteristics with high informational content. No significant performance differences are observed for long-short portfolios where the factor exposures of the alpha concentration and diversification approaches are similar with respect to the low-volatility factor.
Subjects: 
Factor investing
Alpha forecasting
Diversification
Optimal orthogonal portfolio
Information coefficient
Covariance
JEL: 
G11
G12
G15
G17
Persistent Identifier of the first edition: 
Creative Commons License: 
cc-by Logo
Document Type: 
Article
Document Version: 
Published Version

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