Deutsche BankResearch#PositiveImpactIMPORTANT RESEARCH DISCLOSURES AND ANALYST CERTIFICATIONS LOCATED IN APPENDIX 1. Note to U.S. investors: US regulators have not approved most foreign listed stock index futures and options for US investors. Eligible investors may be able to get exposure through over-the-counter products. Deutsche Bank does and seeks to do business with companies covered in its research reports. Thus, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. MCI (P) 041/10/2023.March 2024Clayton GillespieGianpaolo TomasiDB QIS ResearchLong-Only Factor InvestingResearch TeamVivek AnandClayton GillespieCaio NatividadeGianpaolo TomasiDistributed on: 12/03/2024 17:09:06 GMT7T2se3r0Ot6kwoPa Deutsche BankResearchDB QIS ResearchClayton.gillespie@db.comLong-Only Multifactor Investing1 Deutsche BankResearchDB QIS ResearchClayton.gillespie@db.comoMaximize the outperformance over the benchmark➢We seek to effectively capture factor premia systematicallyoRealize similar (or less) volatility than the benchmark➢We use an MVO approach penalizing specific risk onlyoGenerate drawdowns lower than the benchmark➢We add a constraint on the portfolio’s historic drawdownsIntroductionAims of a Long-only Equity Investor2ConstraintValuePortfolio SizeGreater than or equal to 200 stocksTracking ErrorLess than 4%Individual Stock WeightsBetween 0.2% and 2%Region and Sector constraints{Region, Sector} weight ±5% vs benchmarkFunding ConstraintsFully invested, prohibiting cash & leverageSource: Deutsche Bank Deutsche BankResearchDB QIS ResearchClayton.gillespie@db.comFactor SelectionLong-only demands a different approach31We also note that the premium is split roughly evenly across the long and short legs. For more details see Tomasi (2021)and Tomasi (2023)•We include Value, Quality and Momentum in line with academic research.•We find our PCA-based Reversion construction makes it profitable in net space and diversifying to other factors1. •We exclude Low Beta, because in an unlevered framework the portfolio will underperform due to a beta below 1Taken from Aghassi et al (2023)Source: Deutsche Bank Deutsche BankResearchDB QIS ResearchClayton.gillespie@db.comFactor ImplementationQuality and Value: Owner Series & Financials4•OurValueandQualityscoresutilizeour“OwnerSeries”framework1,whichmakesaccountingadjustmentstofamiliarratiosinordertobetterrewardcashgenerationandprofitablegrowth.Owner QualityOwner Earnings to Operating AssetsOwner Earnings to SalesOwner Book to Operating AssetsDividend to Operating AssetsOwner ValueOwner Earnings to PriceOwner Book to PriceDividend Yield•WeaugmentthesescoreswithourresearchintofactorsinFinancials/RealEstate2,whichproxiescashflowusingdividendsandbuybacksandrewardslowcreditriskinsteadofprofitability.2 See Gillespie 20231 See Leng 2019and Leng 2020Source: Deutsche Bank Deutsche BankResearchDB QIS ResearchClayton.gillespie@db.com•Weprefertousean‘Integrated’methodologyatthescorelevelandtocombinescoresusingarisk-parityapproach1.•Thisgivesmoreweighttolessvolatilefactors,butalsoconsiderscorrelationssuchthateachfactor’scontributiontototalriskisequal.Alpha AggregationRisk parity 5Σ퐹푎푐푡표푟푠=퐹′.Σ푆푡표푐푘푠.퐹 1퐶표푚푝표푠푖푡푒퐴푙푝ℎ푎푆푐표푟푒푗,푡=෍푖푤푖,푡퐹푎푐푡표푟푗,푡 21 See Roncalli (2012)Source: Deutsche Bank Deutsche BankResearchDB QIS ResearchClayton.gillespie@db.com•InourMVOapproachwepenalizeonlythestock’sspecificrisk,ratherthantotalrisk.•Thispreventstheoptimizerfrompenalizingfactorrisk(allowinghigherfactorexposure).Risk OptimizationMinimizing Specific Risk6Total RiskSystematic RiskSpecific Risk푎푟푔푚푎푥푤푤′.훼−휆x푤′.Σ푠푝푒푐푖푓푖푐.푤 4Increasing function of factor exposureIndependentof factor exposureΣ푠푝푒푐푖푓푖푐=Σ푇표푡푎푙−Σ푆푦푠푡푒푚푎푡푖푐 3Source: Deutsche Bank, Factset Deutsche BankResearchDB QIS ResearchClayton.gillespie@db.comBacktestResults7•Togetherthesechangesleadtoback-testedCAGRimprovementsof3.6%p.a.vsMSCIworld,netofcosts1,withthesamevolatility.•Thesamestrategyonlyachievesa1%p.a.CAGRimprovementinatotalriskframework.1Liquidity Filter: >$10mil ADV, Transaction Costs: 2bps; Rebalance Frequency: Weekly; Execution Latency: T+2; Taxes on dividendsSource: Deutsche Bank, Factset Deutsche BankResearchDB QIS ResearchClayton.gillespie@db.comResultsImpact of changing risk aversion8푎푟푔푚푎푥푤푤′.훼−흀x푤′.Σ푠푝푒푐푖푓푖푐.푤•Thefiguresshowtheimpactoftheriskaversionparameter,λ.•Fortotalrisk,allvaluesofλresultinastrategyvolatilityfarbelowthebenchmark.However,minimizingspecificriskallowstheinvestortoachievethesamelevelofvolatility.•Fromhereonwesetλ=1toequatethebenchmarkvolatility.Source: Deutsche Bank, Factset Deutsche BankResearchDB QIS ResearchClayton.gillespie@db.comResultsImpact of specific risk on portfolio characteristics9•Using Axioma’s risk model, we show (left) that the specific risk approach results in higher Value, Size, Momentum and Market Beta exposures.•Furthermore, in the worst casescen