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Factor Investing: A Risk Manager’s Perspective

Portfolio investors have long used factors in risk management. Now, they’re recognizing that factors can also be return drivers. BlackRock’s Ron Ratcliff and Russ Koesterich describe their approach.

While many investors have long taken factors into account for risk management, they’re increasingly recognizing that factors can also be return drivers. Ron Ratcliff, BlackRock’s Head of Multi-Asset Investment Risk for Americas West and Russ Koesterich, Portfolio Manager for BlackRock’s Global Allocation discuss how raised “factor awareness” has reshaped the way their teams manage money. For instance, BlackRock’s systemic investment team now uses both traditional asset allocation targets (that is, how much in stocks, bonds, cash and other securities) and factor weightings (exposure to momentum, value and other characteristics) to rebalance its Global Allocation portfolios.

Ratcliffe’s team looks at risks relating to both asset class and factor exposures, identifying areas where a portfolio might be overweighted relative to its target and objectives. The team also evaluates risk dynamically, taking into consideration market events and trends. “For example, if there’s a cyber attack, we examine how the portfolios would be positioned to respond. We also measure crowdedness by looking at flows in a particular asset class or factor. If flows are particularly strong, we consider whether there might be a risk of reversal.”

Koesterich adds his team uses factor analysis to fine tune style exposure in the portfolios. “Style factors are a risk budget consideration. Even if we don’t set explicit targets, we do have bands in mind. For example, Global Allocation portfolios tend to be long volatility, which at times is where we want to be. But there are also times when we’re looking to dampen volatility, so we’ll turn up the dial on other types of exposures like low volatility baskets.” 

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