Strategy Spotlight

PIMCO RAFI Dynamic Multi‑Factor Funds: Innovation in Smart Beta

How can investors gauge whether systematic equity strategies, and the factors underlying them, make economic sense and are positioned to produce results over time?

The smart beta and factor landscape has exploded in recent years. Academics have identified an ever-expanding list of equity factors that may explain excess returns when applied to broad systematic portfolios, and fund providers have launched a variety of strategies that seek to harness and package them. But how can investors gauge whether these strategies, and the factors underlying them, make economic sense and are positioned to produce results over time?

In this Q&A, PIMCO equity strategist Raji Manasseh and Research Affiliates product specialists Brent Leadbetter and Joe Steidl discuss the process behind factor selection and portfolio construction for the PIMCO RAFI Dynamic Multi-Factor funds and the inputs informing factor weightings.


A: Equity factors should be chosen carefully: Only a handful of the hundreds of factors identified to date are likely to persist in the future, in our view. For this reason, Research Affiliates’ equity factors are grounded in academic-quality research and subject to publication in peer-reviewed journals. These factors are designed with an eye toward simplicity, transparency, a sound economic rationale and reduced transaction costs. We believe applying this approach in the PIMCO RAFI Dynamic Multi-Factor funds leads to efficient implementation of a select subset of robust, persistent and pervasive factor portfolios. Finally, by looking at a factor’s valuation and relative momentum, our fund seeks to efficiently allocate more towards those factors looking most attractive in the current environment. We believe this combination gives investors the potential for higher returns with a smoother ride.


A: Research Affiliates is skeptical of many in the expanding array of equity factors and questions the economic rationale behind some seemingly far-fetched – yet published – factors said to generate a premium (the “creativity in stocks’ ticker symbols” factor comes to mind).1 However, we do believe a combination of a small subset of thoughtfully constructed portfolios based on factors with a sound economic rationale, grounded in academic-quality research, may offer the potential for excess returns with modest tracking error.

Research Affiliates identified five equity factors – value, quality, low volatility, momentum and size – that we believe meet these criteria. Working together, PIMCO and Research Affiliates combined these factors into a cohesive multi-factor strategy that favors the factors that we believe appear to be most attractively positioned for future excess returns (as measured by a combination of value and momentum signals). We then packaged this strategy in the four PIMCO RAFI Dynamic Multi-Factor funds, each focused on a different region (U.S., developed, international  and emerging markets).


A: Construction of the PIMCO RAFI Dynamic Multi-Factor fund portfolios begins with the global universe, which we divide into a large and small companies universe. Within each universe we create four distinct factor portfolios: value, quality, low volatility and momentum.

There are five key factors that drive the RAFI Dynamic Multi-Factor ETFs

  • The value portfolio selects the cheapest companies identified by the ratio of their fundamental size to market capitalization. Companies with the highest ratio exhibit the strongest value signal. We believe this approach provides more diversified exposure to value than a single metric, such as the price-to-book ratio.
  • The quality portfolio selects the top companies asmeasured by both profitability and the degree of conservative investment. Again, we believe this combination provides a more robust solution than one relying on a single metric. Selecting companies based solely on their profitability, for instance, would ignore whether firms’ management teams may have wasted those profits on excessive reinvestment (e.g., in the form of empire-building).
  • The low-volatility portfolio selects companies with the lowest risk as measured by sector-level, regional and global betas. Diversifying across multiple measures of beta seeks to reduce persistent biases to individual sectors or countries.
  • The momentum portfolio selects high-momentum stocks using three distinct measures: standard momentum, beta- adjusted momentum and “fresh” momentum (referring to outperformance that has just begun). We believe companies exhibiting fresh momentum are more likely to outperform those with “stale” momentum – those that have outpaced the market for multiple years and may be running out of steam.
  • Finally, the size factor portfolio is an equally weighted combination of the above four factor premiums harvested in the small company universe. It is essentially a multi factor portfolio in its own right.

We weight stocks in the individual value, quality and low- volatility factor portfolios according to each company’s fundamental size (again, as measured by its sales, cash flow, dividends and book value relative to the market’s aggregate size). We believe this approach differentiates the RAFI  factor portfolios from most other factor funds, which we observe tend to weight stocks by market cap. The RAFI approach allows us to keep the liquidity of the portfolios high (i.e., larger companies get larger weights) while breaking the link between price and weight. This introduces a “buy low/sell high” dynamic within the factor portfolios themselves. One exception: We weight stocks in the momentum factor portfolio by market cap to prevent RAFI’s inherently contrarian rebalancing from reducing the exposure to momentum.


A: Research Affiliates’ factor weighting methodology offers another point of differentiation, in our view: While most multi- factor strategies equally weight their factor allocations, we dynamically weight factor allocations over time based on relative value and momentum. While some may view this approach as controversial, we believe incorporating valuation into the weighting of factors is no different from the role valuation typically plays when investors allocate to other assets, such as individual stocks, sectors and countries.

Any asset can become relatively cheap or expensive, and we believe future returns are conditional on starting valuations. We recognize that a dynamic allocation based solely on valuation has the potential to trade too early, buying cheap factors before they become even cheaper and selling appreciating factors before they appreciate further. Therefore, we also incorporate momentum when determining the dynamic factor weights in our strategies.

We use what is called “reversal” – returns over the past five years, excluding the most recent year – as a proxy for factor valuations in our calculation (see Figure 2). We believe a factor that has been beaten up for four years relative to other factors is likely relatively cheap (and vice versa). We also use standard momentum – returns over the past year, excluding the most recent month – as an indication of a factor’s recent turnaround. Looking at the two components together, we would generally consider a relatively cheap factor that is in the midst of a turnaround to be an attractive factor to overweight.

There are five key factors that drive the RAFI Dynamic Multi-Factor ETFs

Figure 3 shows how this approach translated to factor weights at the most recent quarter-end (30 September 2019) in the GIS RAFI Dynamic Multi-Factor US Equity Fund. The value portfolio exhibited the worst returns over the four years preceding the most recent one (2015—2018), while also experiencing the worst performance of any factor over the past year, suggesting that the underperformance could continue. This combination led to a weighting below the baseline 20% equal-weight position.

Conversely, the low volatility portfolio received the highest weight because its recent price momentum has been far stronger than any other factor, which suggests that it may continue to outperform.

There are five key factors that drive the RAFI Dynamic Multi-Factor ETFs

Factor return trends in developed equity markets led to similar allocations for the GIS RAFI Dynamic Multi-Factor Global Developed Equity Fund. As Figure 4 shows, the value portfolio received the smallest weight because it simultaneously exhibited low relative returns over the four years preceding the most recent one while also experiencing the worst returns of any factor over the past year. Conversely, the low volatility factor received the highest weight because although it had relatively high returns over the preceding four years, its strong performance has continued over the past year. While the low volatility portfolio may be relatively expensive versus other factors, its recent continued outperformance justifies an overweight.

There are five key factors that drive the RAFI Dynamic Multi-Factor ETFs

Allocations to factor portfolios for the GIS RAFI Dynamic Multi-Factor Emerging Markets Equity Fund reflect Research Affiliates’ decision not to include a size factor portfolio due  to implementation and liquidity limitations. Additionally, Research Affiliates generally avoids small companies in these regions because they tend to be more expensive to trade than their developed market peers. Therefore, a factor’s baseline equal-weight position is 25%.

In the emerging markets, the value factor portfolio has the lowest weight today because it was the strongest performer over four years before running out of steam during the past year. Alternatively, the quality portfolio received the largest weight. Not only did quality lag the other factors for four years (an indicator of its relative cheapness), but its recent turnaround suggests it is an optimal time to be overweight the factor.

There are five key factors that drive the RAFI Dynamic Multi-Factor ETFs

The GIS RAFI Dynamic Multi-Factor Europe Equity Fund also utilizes Research Affiliates’ dynamic weighting process to determine factor allocations. The fund and its associated factor portfolios incepted in 2018 and, therefore, have limited performance histories; Research Affiliates utilizes back-tested performance in conjunction with its dynamic weighting process to determine factor weights for this fund.

As Figure 6 shows, the value portfolio received the smallest weight because it exhibited relatively strong performance over the four years preceding the most recent one and then experienced the worst returns of any factor over the past year, suggesting that this recent outperformance could persist.

Alternatively, the momentum factor portfolio received the largest weight due to a combination of weak relative returns over the four years prior to the most recent year and strong performance over the most recent year.

There are five key factors that drive the RAFI Dynamic Multi-Factor ETFs

All told, we believe our dynamic approach to factor weighting, applied to a select subset of robust factor portfolios, contributes to higher return potential while helping smooth the path for investors.

1 Cam Harvey, one of Research Affiliates’ academic advisors and partners, has documented this explosion in identified factors and the number of offerings. See “… and the Cross-Section of Expected Returns,” 3 February 2015, co-written with Yan Liu and Caroline Zhu.
The Author

Raji O. Manasseh

Equity Strategist

Brent Leadbetter

Partner, Head of Equity Solution Distribution, Research Affiliates

Joe Steidl

Research Affiliates Global Advisors (Europe) Limited



PIMCO Europe Ltd
11 Baker Street
London W1U 3AH, England
+44 (0) 20 3640 1000

PIMCO Europe GmbH Irish Branch,
PIMCO Global Advisors (Ireland)
3rd Floor, Harcourt Building 57B Harcourt Street
Dublin D02 F721, Ireland
+353 (0) 1592 2000

PIMCO Europe GmbH
Seidlstraße 24-24a
80335 Munich, Germany
+49 (0) 89 26209 6000

PIMCO Europe GmbH - Italy
Via Turati nn. 25/27
20121 Milan, Italy
+39 02 9475 5400

PIMCO (Schweiz) GmbH
Brandschenkestrasse 41
8002 Zurich, Switzerland
Tel: + 41 44 512 49 10

PIMCO Europe GmbH - Spain
Paseo de la Castellana, 43
28046 Madrid, Spain
Tel: +34 810 809 912

PIMCO Europe GmbH - France
50–52 Boulevard Haussmann,
75009 Paris

Past performance is not a guarantee or a reliable indicator of future results.


Equities may decline in value due to both real and perceived general market, economic and industry conditions; the risk that fund shares could trade at prices other than the net asset value; and the risk that the manager’s investment decisions might not produce the desired results. Investing in foreign-denominated and/or -domiciled securities may involve heightened risk due to currency fluctuations, and economic and political risks, which may be enhanced in emerging markets. Model Risk is the   risk that the investment models used in constructing the Underlying Index may not adequately take into account certain factors and may result in a decline in the value of the Underlying Index and, therefore, the Fund. Management and Tracking Error Risk is the risk that the portfolio manager’s investment decisions may not produce the desired results or that the Fund’s portfolio may not closely track the Underlying Index for a number of reasons. Derivatives may involve certain costs and risks, such as liquidity, interest rate, market, credit, management and the risk that a position could not be closed when most advantageous. Investing in derivatives could lose more than the amount invested. Diversification does not ensure against loss.


PIMCO Funds: Global Investors Series plc is an umbrella type open-ended investment company with variable capital and is incorporated with limited liability under the laws of Ireland with registered number 276928. The information is not for use within any country or with respect to any person(s) where such use could constitute a violation of the applicable law. The information contained in this communication is intended to supplement information contained in the prospectus for this Fund and must be read in conjunction therewith. Investors should consider the investment objectives, risks, charges and expenses of these Funds carefully before investing. This and other information is contained in the Fund’s prospectus. Please read the prospectus carefully before you invest or send money. Past performance is not a guarantee or a reliable indicator of future results and no guarantee is being made that similar returns will be achieved in the future. Returns are net of fees and other expenses and include reinvestment of dividends. The performance data represents past performance and investment return and principal value will fluctuate so that the PIMCO GIS Funds shares, when redeemed, may be worth more or less than the original cost. Potential differences in performance figures are due to rounding. The Fund may invest in non-U.S. or non-Eurozone securities which involves potentially higher risks including non-U.S. or non-Euro currency fluctuations and political or economic uncertainty. For informational purposes only. Please note that not all Funds are registered for sale in every jurisdiction. Please contact PIMCO for more information. For additional information and/or a copy of the Fund’s prospectus, please contact the Administrator: State Street Fund Services (Ireland) Limited, Telephone +353-1-776-0142, Fax +353-1-562-5517. © 2020.

Smart Beta refers to a benchmark designed to deliver a better risk and return trade-off than conventional market cap weighted indices.

The Funds use an indexing approach and may be affected by a general decline in market segments or asset classes relating to their Underlying Indices. The Funds invest in securities and instruments included in, or representative of, its Underlying Indices regardless of the investment merits of the Underlying Indices.

The terms “cheap” and “expensive” as used herein generally refer to a security or asset class that is deemed to be substantially under- or overpriced compared to both its historical average as well as to the investment manager’s future expectations. There is no guarantee of future results or that a security’s valuation will ensure a profit or protect against a loss.

Investment Restrictions In accordance with the UCITS regulations and subject to any investment restrictions outlined in the Fund’s prospectus, the Fund may invest over 35% of net assets in different transferable securities and money market instruments issued or guaranteed by any of the following: OECD Governments (provided the relevant issues are investment grade), Government of Singapore, European Investment Bank, European Bank for Reconstruction and Development, International Finance Corporation, International Monetary Fund, Euratom, The Asian Development Bank, European Central Bank, Council of Europe, Eurofima, African Development Bank, International Bank for Reconstruction and Development (The World Bank), The Inter American Development Bank, European Union, Federal National Mortgage Association (Fannie Mae), Federal Home Loan Mortgage Corporation (Freddie Mac), Government National Mortgage Association (Ginnie Mae), Student Loan Marketing Association (Sallie Mae), Federal Home Loan Bank, Federal Farm Credit Bank, Tennessee Valley Authority, Straight-A Funding LLC.

Additional information This material may contain additional information, not explicit in the prospectus, on how the Fund or strategy is currently managed. Such information is current as at the date of the presentation and may be subject to change without notice.

This presentation contains the current opinions of the manager and such opinions are subject to change without notice. This presentation has been distributed for informational purposes only and should not be considered as investment advice or a recommendation of any particular security, strategy or investment product. Information contained herein has been obtained from sources believed to be reliable, but not guaranteed. No part of this presentation may be reproduced in any form, or referred to in any other publication, without express written permission.

PIMCO Europe Ltd (Company No. 2604517) and PIMCO Europe Ltd - Italy (Company No. 07533910969) are authorised and regulated by the Financial Conduct Authority (12 Endeavour Square, London E20 1JN) in the UK. The Italy branch is additionally regulated by the Commissione Nazionale per le Società e la Borsa (CONSOB) in accordance with Article 27 of the Italian Consolidated Financial Act. PIMCO Europe Ltd services are available only to professional clients as defined in the Financial Conduct Authority’s Handbook and are not available to individual investors, who should not rely on this communication. | PIMCO Deutschland GmbH (Company No. 192083, Seidlstr. 24-24a, 80335 Munich, Germany), PIMCO Deutschland GmbH Italian Branch (Company No. 10005170963), and PIMCO Deutschland GmbH Spanish Branch (N.I.F. W2765338E) are authorised and regulated by the German Federal Financial Supervisory Authority (BaFin) (Marie- Curie-Str. 24-28, 60439 Frankfurt am Main) in Germany in accordance with Section 32 of the German Banking Act (KWG). The Italian Branch, and Spanish Branch are additionally supervised by the Commissione Nazionale per le Società e la Borsa (CONSOB) in accordance with Article 27 of the Italian Consolidated Financial Act, and the Comisión Nacional del Mercado de Valores (CNMV) in accordance with obligations stipulated in articles 168 and 203 to 224, as well as obligations contained in Tile V, Section I of the Law on the Securities Market (LSM) and in articles 111, 114 and 117 of Royal Decree 217/2008, respectively. The services provided by PIMCO Deutschland GmbH are available only to professional clients as defined in Section 67 para. 2 German Securities Trading Act (WpHG). They are not available to individual investors, who should not rely on this communication. | PIMCO (Schweiz) GmbH (registered in Switzerland, Company No. CH-, Brandschenkestrasse 41, 8002 Zurich, Switzerland, Tel: + 41 44 512 49 10. The services provided by PIMCO (Schweiz) GmbH are not available to individual investors, who should not rely on this communication but contact their financial adviser.