Craftsmanship Alpha

An interesting paper about the artistry in a building of multi-factor portfolios:

Authors: Israel, Jiang, Ross

Title: Craftsmanship Alpha: An Application to Style Investing



Successful investing requires translating sound investment concepts into actual trading strategies. We study many of the implementation details that portfolio managers need to pay attention to; such choices range from portfolio construction to execution. While these kinds of decisions apply to any type of investment strategy, they are particularly important in the context of style investing. Consider two managers who both intend to capture the value factor in a long/short context: each manager might make a number of decisions, many of which can lead to meaningfully different outcomes. These choices can often explain why one value manager outperforms another. Ultimately, what may seem like inconsequential design decisions can actually matter a lot for style portfolios. In fact, the skillful targeting and capturing of style premia may constitute a form of alpha on its own — one we refer to as “craftsmanship alpha.”

Notable quotations from the academic research paper:

"Style premia are a set of systematic sources of returns that are well researched and have been shown to deliver longrun returns that are uncorrelated with traditional assets. Styles have been most widely studied in U.S. equity markets, but have been shown to work consistently across markets, across geographies, and over time. There are variations in the types of style portfolios, but also — importantly — in how different managers choose to build those portfolios. While practitioners might define styles with similar “labels,” actual portfolios can differ significantly from one another.

Our paper focuses on the craftsmanship required to build effective style portfolios. That is, the kind of decisions that happen after we have already agreed on the type of style portfolio that we want to build.

We start with a brief discussion of the types of style portfolios an investor may choose; we then go into more detail on design decisions related to building style portfolios; and finally, we address other considerations for style investing, such as trading and risk management. We will share our thoughts on a number of enhancements that can be made without deviating from the main thesis . While many of these enhancements reflect our opinions on better ways to build portfolios, the main point is that these choices need to be made consciously. Certain design choices may improve the risk/return characteristics of the overall portfolio, by enhancing returns, reducing risk, or a combination of both. We call the sources of alpha that involve implementation choices “craftsmanship alpha.”


1. What Kind of Style Portfolio?
2. How to Build Style Portfolios?
  2.1. Smarter Style Measures
  2.2. Multiple Style Measures
  2.3. Stock Selection and Weighting Schemes
  2.4. Unintended Risks
  2.5. Volatility Targeting
  2.6. Integrating Styles in a Multi-Style Portfolio
  2.7. Strategic or Tactical
3. How To Execute Style Portfolios?
   3.1. Portfolio Implementation
   3.2. Cost-Effective Execution
   3.3. Risk Management
4. Conclusion

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