Investment factors can do their own thing and go their own way depending on economic conditions and market cycles, resulting in variegated performance over time. Khoziaeva notes that Bridgeway’s research team evaluates long-term results in order to find an optimal allocation for their small-cap value strategy (and all of their investment strategies) to help drive long-term outperformance.
“Each of the factor models are there for a specific reason,” she says. “If you look at it over short time periods, some factors will work and others won’t, but over a longer time period is when it all comes together.”
Active Share
The fund’s investment universe is its benchmark, the Russell 2000 Value Index. Unlike the index, the fund isn’t market-cap weighted. “The weight of each stock [in the fund’s portfolio] is determined by the model, not by market cap. As long as there’s liquidity, we can bring a position into the portfolio,” Khoziaeva explains.
“We buy names throughout the index, so compared to the Russell 2000 we end up being smaller,” she adds. “That’s one of the risk factors. We are smaller, but we’re not in the micro-cap space. We just have more smaller-cap names than the benchmark, and our average market cap is about half of the benchmark—I think our average is about $1.5 billion versus $3 billion [for the benchmark].
“[Small is] in the name of the strategy,” she continues. “And our valuation ratios show that we’re deeper value versus the benchmark, so we’re also true to the value part of our name.”
According to Morningstar, the fund sports lower valuations based on price/earnings, price/book, price/sales and price/cash flow measures.
The fund’s differentiation from its benchmark is reflected in its active share score of nearly 90 (Morningstar says a score of 100 means that a fund’s equity portion and its benchmark don’t have common holdings). Its reported turnover rate was 102% as of the end of the third quarter, which Khoziaeva says is in line with the portfolio’s historical turnover.
“Because of the different categories of models in this portfolio, some of the models are rebalanced at a lower frequency than others,” she notes, adding that value is a steadier, longer-term category with less turnover than the quality category, which is in the middle of the three factors this fund employs. Momentum is the fastest turnover category.
Khoziaeva stresses that she and the fund’s other two co-managers, John Montgomery and Michael Whipple, think about the tax consequences related to portfolio turnover even though it’s not a tax-managed fund per se. (Montgomery, Bridgeway’s founder and chief investment officer, has been at the fund since its inception in 2003. Whipple, like Khoziaeva, joined the fund two years later.)
“To the degree that we can implement tax-management techniques, we’ll do it secondary to the primary objective of the strategy, which is to follow the factor model allocation,” Khoziaeva says. “We have a very experienced trading team that has worked together a long time, and we have multiple small-cap strategies where we’ve learned how to trade small-cap stocks. We monitor both tax efficiency and transaction costs.”