ETFs, Smart Beta & Factor Exposure

Do Smart Beta ETFs Provide the Desired Factor Exposure?

July 2018. Reading Time: 10 Minutes. Author: Nicolas Rabener.


  • Factor exposure analysis can be used to derive factor themes
  • Smart beta ETFs offer relatively low factor exposure
  • It is all about how factors are defined


The Austrian energy drinks company Red Bull advertised for almost two decades that Red Bull “gives you wings” and improves a consumer’s concentration and reaction speed. Consumers in the US sued the company successfully in 2014 as they had not developed flying capabilities or improved their mental powers. Red Bull was forced to pay a fine of $13 million and reimburse $10 to every consumer who bought the drink since 2002. Unfortunately false advertisement is not limited to consumer products, but also widespread within the financial industry. Investors frequently discover that the names of financial products are not accurate descriptions for the underlying portfolios. In this short research note we will investigate the factor exposure of smart beta ETFs, initially by focusing on the Value factor and then expanding to other factors (read Smart Beta or Smart Marketing).


We focus on seven factors namely Value, Size, Momentum, Low Volatility, Quality, Growth and Dividend Yield in the US stock market. The factors are created by constructing long-short beta-neutral portfolios of the top and bottom 10% of stocks ranked by the factor. The factor definitions are in line with academic and industry standards. Only stocks with a minimum market capitalisation of $1 billion are included. Portfolios are rebalanced monthly and each transaction incurs costs of 10 basis points.

Factor exposure is measured by factor betas derived from a one-year regression analysis utilising daily data and the seven equity factors as well as the market as independent variables.


As a first step, we measure the exposure to the long-short Value factor of all tradable ETFs in the US. Interestingly, the resulting list of ETFs with the highest Value factor exposure as measured by the factor beta does not contain any smart beta Value ETFs, but represents a rather diverse universe. The chart below shows the top and bottom