HF not ETFs?
Might be a stupid question, but for quant funds managing factor loading strategies (especially on well known, non-esoteric factors) like AQR, how is what they're doing, NOT just buying an ETF on those same factors, from the end investor's standpoint at least? Say I invest in AQR's value fund cuz I want a value exposure, how is that any different from just buying a cheap Vanguard value ETF for example? Why would I pay HF fees for explicit alternative beta? (Unless, funds like AQR charge alternative beta fees and they're not charging expensive alpha fees)
I understand that even within factor loading and ETFs on the same factors, there are many different methodologies. So 2 PMs loading on the same factor can construct 2 very different portfolios. And ig, also, AQR as a HF, doesn't try to buy all the stocks in that factor cuz they're not an ETF, but instead try to sift within the factor?
How?
I don’t follow the space that closely but from random products I’ve seen I think we are closer to what you’re saying now. AQR has quite a few funds with exp ratios closer to what you see on “smart beta” etc. - like 70bps, but some get pretty up there to 300bps
Most allocators have a sharp eye towards fees and what value they are actually getting, and my gut tells me that most of the products with little differentiation and/or value don’t really have any scale anymore. Also they will continue to be swept up by the large guys offering the same for cheaper.
Another exception is sometimes you see mutual funds that allocate to like 5-10 sub advisors and will change tilts around (I see this in the quant space and managed futures)- and I can’t remember for sure but I feel like thE sub advisors are still charging an arm and a leg for that even if the mutual fund itself is displaying a 1.5% active fee.
In closing - I agree, wouldn’t be surprised if most are smaller scale or just continue to get gobbled up.
Thanks for this.
So just to confirm, you're saying that quant funds are not charging alpha fees, but instead, smaller fees that's closer to smart beta ETFs?
If so, that would make sense. Cliff Asness himself writes in his papers that only true alpha should charge alpha fees - all alternative beta that can be reduced to a factor or systematic strat can and should only warrant 'alternative beta fees' (a fee in between clean alpha, HF fees and cheap index traditional beta fees).
And another question I've been thinking about is - how can the economics of allocating to a factor loading quant fund even work for allocators? By the nature of factors, you have to sit in them for years and years. It usually takes like 10 years or so for a factor to have a high (> 70%) probability of outperforming. And that's only the high quality, well-known factors like value, momentum, size etc - the niche factors probably have way higher Vol and thus shitty Sharpe. Thus, you have to lock in your capital in a HF like AQR for that long for the returns to make sense. In that period of time, idek if allocators would be better off seeking an illiquidity premium elsewhere, in asset classes with embedded and rewarded illiquidity premia like PE or RE.
Individual investors can afford to lock up their personal wealth in index funds and ETFs for that long cuz it's their own money, but allocators have to deal with a lot of shit and policies.
By the nature of beta risk premia, you should milk the premium over the lifecycle anyway.
I believe that they tend to charge fees appropriate for the product - not always I mean tons of funds don’t earn their fees, but like all products/services in the world, people eventually stop paying for it.
AQR’s mutual funds are quite different than two sigma’s flagship strategy, and the complexity of the strategy, as well as the risk / return objectives tend to align with fees.
I’m sure there are tons of exceptions though. I mean the fee structure of this industry is under constant pressure (hence our classic market neutral vs +ve net vs publics debate which will continue on forever)
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