Transaction Costs Optimization for Currency Factor Strategies

18.June 2020

A lot of backtests of systematic trading strategies omit transaction costs (in the form of spreads and fees). Simulation is then simpler, but resultant model portfolio and its performance can be misleading. In the case of currency factor investing, backtest without the tcosts simulation can pick currencies with wider spreads and higher volatilities. And in real trading, with real-world transaction costs, a strategy can, therefore, perform significantly worse than expected. A research paper written by Melvin, Pan, and Wikstrom offers an elegant optimization methodology to incorporate transaction costs into the backtesting process which allows strategies to retain their alpha …

Authors: Michael Melvin, Wenqiang Pan, Petra Wikstrom

Title: Retaining Alpha: The Effect of Trade Size and Rebalancing Frequency on FX Strategy Returns

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Long-Short vs Long-Only Implementation of Equity Factors

26.May 2020

How should be equity factor strategies implemented? In a long-only (smart beta) way? As a long-short strategy, as most of the hedge funds usually do? Or in a partially-hedged fashion by going long equity factor and shorting market to offset some of the market risks? There is no one universal answer as it depends on the investment mandate and constraints of each fund manager contemplating to implement factor investing strategies. But recent academic paper written by Benaych-Georges, Bouchaud and Ciliberti suggests that it’s a good idea to go in the direction of long-short implementation (if it’s possible). Managing short book can be challenging; however, the added benefit of lower correlation among strategies gives resultant factor portfolio a significant boost in the return-to-risk ratio (even after accounting for realistic implementation and shorting costs).

Authors: Benaych-Georges, Bouchaud, Ciliberti

Title: Equity Factors: To Short Or Not To Short, That is the Question

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YTD Performance of Equity Factors – Update After Two Months

15.May 2020

Nearly two months ago, in a time of the highest turmoil during the current pandemic crisis, we performed a quick assessment of the status of performance of equity factor strategies. The world has still not been able to ward-off health-care crisis completely, but a lot of countries have made significant progress (on the other hand, there are still a lot of countries in a worse state than a few months ago). Equity indexes have rebounded from the March lows and have removed some of the losses. Therefore, we have received multiple inquiries about the current situation of equity factor strategies.

So it may be a good time to revisit once again how they are performing.

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YTD Performance of Equity Factors

23.March 2020

Markets are in turmoil, and there exist very few investors who are unscathed by current global events related to coronavirus pandemic. It’s a good time to revisit how are various groups of algorithmic trading strategies navigating current troubled times. The selected sample for this short article consists of 7 well-known equity factor strategies – size, value, momentum, quality, investment, short-term reversal and low volatility factors.

Our analysis shows that we have two groups of factors: strong winners and bad losers. There is no middle ground. A current bear market is ruthless, equity long-short factor strategies either totally nailed it and had a stellar performance or totally disappointed.

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A Comparison of Global Factor Models

4.March 2020

Mirror, mirror on the wall, what’s the best factor model of them all? We at Quantpedia are probably not the only one asking this question. A lot of competing factor models are described in the academic literature and used in practice. That’s the reason why we consider a new research paper written by Matthias Hanauer really valuable. He compared several commonly employed factor models across non-U.S. developed and emerging market countries and answered the question from the beginning of this paragraph. Which model seems the winner? The six-factor model proposed in Barillas et al. (2019) that substitutes the classic value factor in the Fama and French (2018) six-factor model for a monthly updated value factor …

Authors: Hanauer

Title: A Comparison of Global Factor Models

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Alternative Fair-Value Models for Currency Value Strategy

17.January 2020

The idea of buying an investment asset for a lower price than a fair-value is the cornerstone of value factor strategies. Various value strategies were popularized by famous investor Benjamin Graham (and his successors like Warren Buffett) and were firstly employed in the stock market. This idea of looking for investment opportunities that can be bought cheaply can also be applied in currency markets – Currency Value Factor strategy. There is, however, one catch – an investor must know the fair-value exchange rate for currencies. The most popular equilibrium exchange rate model used for this purpose is based on PPP (purchasing power parity). A new research paper written by Ca’ Zorzi, Cap, Mijakovic, and Rubaszek analyzes two additional models – Behavioral Equilibrium Exchange Rate (BEER) and the Macroeconomic Balance (MB) approach to assess which model has the best forecasting power.

Authors: Ca’ Zorzi, Cap, Mijakovic, Rubaszek

Title: The Predictive Power of Equilibrium Exchange Rate Models

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