Standing out from the increasingly busy crowd of smart beta index providers in the Americas is a tough task. But then few rivals have the resources that MSCI has to fall back on. The firm has leveraged its extensive experience of index construction and depth of available pricing inputs - combined with its in-house analytics company, Barra, which has been conducting research on equity risk factors for more than 25 years - to come up with a unique factor-based investing framework.
The firm has built a six-factor core model - value, momentum, yield, quality, size and volatility - and developed a smart beta product set on top that is built around the existing MSCI family of indexes.
"The focus on our side has been on developing a clear framework and clear method as to what exactly factor indexes are, and what role they play in the investment process for investors. Everything we build is based on that framework," says Ricardo Manrique, New York-based executive director, equity index product management at MSCI.
The company has seen a surge in demand from the exchange-traded fund (ETF) industry for its factor indexes in the past year. Ninety-five ETFs based on MSCI indexes were launched in 2014 - almost twice as many as the next index provider - 42 of which were linked to factor indexes. That compares to just six launches in 2013. As of September 2014, around $120 billion was benchmarked globally to MSCI's factor-based indexes, split between active (47%) and passive management (53%), with high dividend yield and minimum volatility the most common strategies.
MSCI's factor-based indexes have earned praise from the industry, particularly for their foundation in extensive datasets, their solid construction and rigorous methodology. "They're the strongest out there - they're far ahead of everyone else," says one US-based head of index strategies at an investment bank. "They're becoming very well known for their high levels of quality. Institutions pick up on things like that."
We’re basically creating the listed derivatives business on international cross-country, cross-market, cross-currency indexes
Over the past 18 months, the firm has looked to expand its core offerings by creating new, multi-factor indexes that combine the strategies into blended indexes - such as low volatility, quality and value - and equal weighting them. MSCI has also won plaudits for its new indexes focusing on size and dividends in the Factor Tilt series, which are calculated by screening or re-weighting certain inputs in the original parent index. Two of the most popular offerings are its enhanced value and sector-neutral quality index families, both of which aim to reflect the performance of securities that exhibit stronger value or quality characteristics relative to their peers within the corresponding industry sector.
"It's factor investing 2.0," says Beth Byington, head of broker-dealer client coverage for the Americas at MSCI. "Clients have been asking us to combine them, asking about the right ways to combine them and what are the right macro regimes that we've historically seen where certain factors performed better than others."
The most recent tilt offering, launched in March this year, is a set of diversified multi-factor indexes, which aim to maximise exposure to four factors - value, momentum, quality and low size - while maintaining a risk profile similar to that of the underlying parent index.
Playing to its core strengths, MSCI remains the first port of call for many when it comes to offering US investors emerging markets exposure. Its benchmark Europe, Australasia and Far East (EAFE) and Emerging Markets (EM) indexes - which have an estimated $2 trillion and $1.7 trillion respectively benchmarked to them globally - are perennially popular with US institutional investors. EAFE has also been a popular underlying in the US-based structured products market, seeing record issuance in 2014 with 328 products linked to it.
As exposure to the index has grown, the need for a suitable hedge for issuers and investors has risen. MSCI has blazed a trail by working with exchanges and other industry players to develop derivatives products based on its indexes, including new multi-currency futures products on indexes with Eurex, Ice Futures US and the Singapore Exchange. "That's been a big focus for us this past year especially. We're basically creating the listed derivatives business on international cross-country, cross-market and cross-currency indexes," says Manrique.
With investors seeking exposure to the EM and EAFE indexes generally preferring to use over-the-counter options for the flexibility of terms they offer, dealers who act as options providers have generally been forced to hedge their own exposure using EM and EAFE ETF options - an approach some argue is inefficient because of the embedded tracking fees that come with the ETF options.
The week on Risk.net, December 9–15 2017Receive this by email