Research Affiliates is advocating a strategy they call "Systematic Alternative Risk Premia (SARP)."
Now, big fund companies often offer and promote inconsistent strategies--Vanguard does, too--but I will still ask "will the 'real' Research Affiliates strategy please stand up?"
Because ten years ago, they were all about "fundamental indexing," there was buzz about it in the financial media and in the forum. They weren't the only "fundamental indexers" either, the concept was also supported by WisdomTree and by Fidelity's "enhanced index funds." The very phrase "fundamental indexing" has pretty well quietly faded out, I think. But please note just how much reputation was staked on it. This--
--isn't just an etf.com article, it's a whole book. Written by the principal of Research Affiliates, Rob Arnott. With an introduction by Harry Markowitz, the Nobelist who founded modern portfolio theory. What was claimed? No, I haven't read the book (and won't pay $15 to buy it), but according to Dale Maley's review in this forum,
From the jacket blurb as quote on the Amazon website:Arnott claims his fundamental index historically gives a 2% improvement in return compared to conventional cap-weighted indexes [page 263 from 1962-2007 with S&P 500 with a return of 10.3% and sigma of 14.6%.........and his RAFI U.S. Large with a 12.3% return and sigma of 14.4%].
Schwab introduced an index fund tracking the RAFI Fundamental US Large-Cap Index on 3/31/2007, thus constituting an almost perfect "forward" test of Arnott's 4/25/2008 book.In just over three years, the idea has attracted over $20 billion of investment capital from some of the largest and most sophisticated institutional investors in the world... this new twist on indexing can overcome the structural return drag created by traditional capitalization-based indexing strategies—which systematically overweight overpriced securities and underweight underpriced securities... In the years ahead, the Fundamental Index approach will become an important part of the indexing community and an essential alternative for those who are disappointed with the hollow promises of active management and frustrated with the market bubbles that traditional index funds pull us into.
The results to date. "Portfolio" 1 (blue) is 100% SFLNX.
The fundamental index fund fell a bit short of "2% improvement." In fact, the S&P 500 index fund, VFIAX, beat it by every measure, although I wouldn't object to calling it "a tie." The plain old index fund had higher return, lower volatility/risk as measured by standard deviation, lower drawdown in 2008-2009, and higher risk-adjusted return as measured by Sharpe and Sortino ratios.
The comment about "market bubbles that traditional index funds pull us into" seems vitiated by the greater drawdown experienced by the RAFI fund in 2008-2009. Now, I don't know what the unbiased thing to say about performance from the bottom until now. You can say "...but it has outperformed the S&P 500 index fund for ten years," which is probably why it has earned a five-star Morningstar rating, or you can say "it is pulling us into a market bubble just the same way as the traditional index fund."
In any case, it dropped further and then climbed further than the S&P 500 fund, thus behaving in a slightly riskier way, such is not what fundamental indexing was supposed to do.
You can also say that (unlike, let's say, 130/30 funds or allocations to "commodities" in the form of CCFs), investing in this fund didn't do any harm. But it seems fair to say that "fundamental indexing" came with first-rate credentials, a plausible story, impressive backtesting... and has fallen far short of the expectations set by its promoters.
If, within the next few years, the S&P falls -50% and SFLNX falls much less than that, then I'll try to remember to revisit this thread and post a headpalm emoticon.