Factor-based Portfolio Management with Corporate Bonds
Over the past 50 years financial asset pricing theories have evolved from simple single-factor models to more complex multi-factor models. Initially, Sharpe’s (1964) Capital Asset Pricing Model (CAPM) postulated that security markets can be described by a single factor (market beta). The basic premise of the model is that market participants require a risk premium for investing in high-beta assets that are typically considered more risky than low-beta assets. However, in the aftermath of the 2008 global financial crisis, two major trends emerged in the investment industry that laid the groundwork for the rise of factor-based investment strategies: 1) Investors started to evaluate and implement portfolio diversification in terms of underlying systematic risk factors given the failure of active management to provide adequate downside protection. 2) Investors demanded cost-effective, transparent and systematic alternative investment vehicles that could capture most or at least parts of active managers’ excess return. As a consequence, factor-based investing has grown in popularity and rapidly attracted academics, asset managers and institutional investors.