Over the last 30 years, high geopolitical risk has been associated with lower equity returns and higher forecast volatilities. We show that measures of geopolitical risk have provided useful information beyond conventional measures of uncertainty. 

Multinational corporations’ recent interest in reconfiguring their global supply chains and adopting “China-plus” manufacturing strategies has potential consequences for equity allocators, reaching across countries, sectors and themes.   

One of the primary investment implications of deglobalization in 2022 was a greater dispersion of returns among countries. We review the investor challenge of identifying potential pockets of opportunity through targeted EM allocations.

Real estate investors have historically exhibited a strong home bias. But there is evidence that real estate may have become more global based on return and transaction behavior — bucking the trend, evident in listed markets, toward deglobalization.

How have the Fed and central banks around the world sought balance in the face of a myriad of challenges?

Inflation watchers, aware of how COVID-19 led to trillions of dollars of stimulus, may want to note the longer-term shift toward deglobalization. As these forces collide, they may lead to rising global inflation and affect asset-allocation strategies.

The universe of stocks represented by the MSCI USA Index comprises over 600 securities. U.S. investors might assume there are ample opportunities for diversification and potential risk reduction in the domestic market. Is this assumption correct?

Private-capital funds enjoyed record inflows from 2014 to 2018, as asset owners sought high-returning assets that had low correlations to traditional public asset classes. Did private capital deliver?

Commonly held perceptions about China A shares have influenced investors to think factor strategies may not work in the Chinese equity markets. Our research suggests this may be changing.

Chinese equity prices have hardly been music to investors’ ears so far in 2018. The MSCI China A Onshore IMI Index — the broadest MSCI A shares index designed to represent the performance of the overall A shares market — has declined more than 25% in local currency terms through Oct. 31, 2018. Were there factors in this market that outperformed?

Clients often ask us whether factor insights can be applied to construct equity portfolios in a particular market. They wonder whether certain market or economic characteristics might prevent factors from working: Different countries and their equity markets are at different stages of development, have different depth and may have dominant sectors.

In the age of big data, fundamental stock pickers face a major challenge. Stock selection typically depends on establishing research conviction in the operating models of companies, such as identifying inexpensive businesses that demonstrate sustainable competitive advantage, disciplined capital management and strong corporate governance. The stock picker’s edge may rely on analyzing information and top-notch research skills.

The persistent decline in Chinese equities and commodity prices this summer renewed investor concerns about a possible economic hard landing in the Asian giant.

Using the lens of the Barra US Equity Model (USE4S), this Research Insight provides a practical guide to constructing investable factor portfolios. This paper begins by discussing the general concept of a factor portfolio. We then explore the role of optimization in making a 'pure factor portfolio' investable. We assess how investability constraints impact the performance of factor-replicating portfolios. Finally, we discuss how MSCI Market Neutral Barra Factor Indexes can be used in an...

This paper, second in a series of three, examines the potential impact of rising Japanese Government Bond yields on a range of sample portfolios.  We create scenarios that model market conditions associated with a rise in yields using factors in the Barra Integrated Model.  A key insight is that the underlying cause of the rise in yields matters greatly for the spillover effects associated with the scenario. In particular, the different stories behind the rise in yields have...

The Japanese Government Bond (JGB) market rivals the US Treasury market in size. It displays a number of distinctive features that may have contributed to low yields in recent years, despite a deteriorating fiscal environment in Japan. Nevertheless, observers have argued that it is possible for JGB yields to increase significantly in coming years. In this series of stress testing papers we will help clients understand what scenarios may potentially cause JGB yields to rise, analyze the...

In this Research Insight, we outline the building blocks essential to constructing an effective standard risk model. We then turn to how risk models are used in the investment process — that is, constructing efficient portfolios and attributing their risk and return. Finally, we describe the best practices of proprietary model construction, including an empirical investigation of the economic impact of using proprietary models in portfolio optimization.

In this report, we look at the period between January 1997 and December 2012, comparing two methods of estimating the market risk of a portfolio: historical beta and predicted beta, based on the Barra Global Equity Model (GEM3). We investigate this question: which estimation approach performed best during periods of market stress? We find that during our sample period, predicted beta appears to be a more accurate than historical beta as a gauge of the defensiveness or aggressiveness of a...

Portfolio managers have long worried that discrepancies between risk and alpha factors may somehow detract from the performance of their optimized portfolios. This paper presents a comprehensive overview of alpha-risk factor alignment and its consequences, showing how penalizing the residual alpha may help reduce the unintended bets resulting from misalignment. However, we also illustrate that correcting for misalignment may not always be necessary and can sometimes be...

In this paper, we show how Barra models capture the risk and return characteristics of mid-cap stocks using the Non-Linear Size factor. This factor describes the return difference between mid-cap stocks and the overall market, net other factors. We show that since the global financial crisis of 2008, the impressive performance of global mid-caps was attributed, in large part, to their exposure to Non-Linear Size. Monitoring the exposure to this factor provides investors with a view of...

The US equity market closures necessitated by Hurricane Sandy posed the potential for returns or risks to spike once the markets reopened.  We examine a number of RiskMetrics and Barra risk models in the aftermath of the storm, concluding that markets largely returned to normalcy, and no special model treatment of those days was necessary.

In the aftermath of Hurricane Sandy, we examine the impact of past US natural disasters on the cross-section of US equity returns. Investors might expect the recent hurricane to have an impact on the broad market, as well as pronounced effects in certain industries and sectors. Based on our analysis, we conclude that few predictable patterns emerged in the cross-section of equity returns following the natural disasters that we analyzed.

Following the “quant meltdown” of August 2007, market observers became concerned that quant strategies were leading to crowded trades. This paper analyzes the impact that a risk model used in portfolio construction has on manager crowding by identifying the drivers of crowding and by illustrating their impact.  A risk model’s effect on manager crowding depends, in part, on how alphas used by different managers are related to each other, and to the risk model factors. We...

Many portfolio managers use multi-factor models, but not all factor models are equally effective in forecasting risk.

The crisis in the European sovereign bond and equity markets that started in late 2009 is still not resolved. As European economies and the local equity markets form a strongly connected network, the whole region – including core countries – is exposed to potential negative developments in Greece, Portugal, Spain, Ireland, and Italy. In this report, we show how the Barra Europe Equity model (EUE3) can be used to help identify stocks that are less sensitive to the unfavorable...

Following a benign first quarter of 2012, investors have seen a breakdown in the Eurozone, which may cause a significant increase in risk aversion. Implied volatility is a common gauge of investor risk aversion and investor sentiment. In this report, we analyze factor returns in different volatility regimes and found that stocks with positive exposures to Size, Dividend Yield, Momentum and negative exposures to Residual Volatility and Leverage may have provided a hedge during rapid...

According to popular index-based measures, value stocks have tended to underperform growth stocks since 2010.  Alternative measures  of the value effect have shown different return profiles. In this report, we compare these different measures while touching on the practical issues of value investing, illustrating how unintended biases in a portfolio designed to capture the value effect could strongly influence its performance. 

The characteristics of the Canadian economy suggest that commodity returns are an important risk driver for Canadian equities. One of the highlights of the new Barra Canada Equity model (CAE5) is an enhanced style factor structure, which includes two commodity-related factors: oil and gold sensitivity. These factors explain the return differences between stocks caused by sensitivity to spot commodity returns. We illustrate how these factors add value by providing information in addition to...

Sector rotation strategies are a staple of finance textbooks. This paper discusses sector rotation strategies and contributes beyond the typical literature by highlighting the need to look at the style profile within each sector. Most of the earlier studies on sector rotation focus on the links between industry membership and the macroeconomic or market cycles. We find that style exposures play an important role in sector performance, and returns driven by style effects can dominate returns...

This paper presents a framework for conducting effective stress tests and incorporating insights from stress tests in portfolio construction. We examine how to determine the scope of the test, how to construct severe, but plausible scenarios, how to transmit the shock to the portfolio and how to incorporate the results of stress tests in portfolio construction. Stress testing can be a useful complement to risk model outputs, such as volatility, VaR, and expected shortfall. The key advantage...

This Research Insight examines the impact of the unfolding European sovereign debt crisis, focusing on Greece, Portugal, Ireland, Spain, and Italy (GPISI). We use the new, short-horizon Barra Integrated Model (BIM Daily) to measure sovereign bond investment risk and provide insight into this market development. First, we highlight the background of this emerging crisis, in particular the links to government debt, fiscal deficits, maturity distribution, and levels of external borrowing. Then,...

This paper examines the recent trend of adding leverage to fixed income allocations of multi-asset class portfolios of large asset owners. We show that the optimality of adding leverage from a volatility-reduction perspective depends on the correlations between bonds and equities, the relative volatility of bonds versus equities, and the weights of the two asset classes in the portfolio. If correlations between bonds and equities are negative, adding leverage could reduce the volatility of a...

The market turmoil of 2008 highlighted the importance of risk management to investors in the UK and worldwide. Realized risk levels and risk forecasts from the Barra Europe Equity Model (EUE2L) are both currently at the highest level for the last two decades. We explore the historical diversification effects of an international allocation for UK investors. We illustrate that investing only in the UK market can be considered an active deviation from a global benchmark. A UK domestic strategy...