The original HML value factor is redundant in the new Fama-French 5 factor model (subsumed by investment and profitability factors) and absent in the Hou-Xue-Zhang 4 factor and 5 factor models.
Several recent industry papers exploring the 13+ year drawdown of value similarly conclude that the original HML definition is obsolete and needs further adjustments to be useful.
- AQR: Fact, Fiction, and Value Investing (2017)
- AQR: Is (Systematic) Value Investing Dead? (Apr 2020)
- Research Affiliates: Reports of Value’s Death May Be Greatly Exaggerated (Oct 2020)
- Robeco: Resurrecting the Value Premium (Oct 2020)
- All of the papers above recommend using multiple metrics, typically a (different) combination of Book/Price, Earnings/Price, Future Earnings/Price, Sales/Price, Buyback-adjusted Dividend Yield/Price etc. to construct a new value factor.
- All of them recommend additional (but different) improvements, including adjusting the accounting metrics to account for intangibles, using more timely metrics, sector neutrality, excluding financial sector, combining with other factors like Momentum and Profitability in either trading strategies or in screens, minimizing trading costs etc.
- While the HML value factor has only been present in small-cap stocks post-discovery (Fama-French (2020)), some of them re-expand the universe to large and mid caps given the redefinition, or change from cap-weighting to equal weighting.
- Finally, all of the research and backtests are for long-short factors, while most value indexes and ETF are long only.
But existing Small Cap Value Indices don't make most of the adjustments recommended above.
- The S&P 600 Small Cap Value Index only uses an average of Book/Price, Earnings/Price and Sales/Price with no further screens or adjustments. State Street's SLYV, Vanguard's VIOV and iShares IJS passively follow this index.
- The S&P 600 Small Cap Pure Value Index is a more "concentrated" version one above. It only includes ~33% of the 600 small-cap stocks ranked by their value score instead of ~50% in the one above. The stocks are also weighted by their value score, unlike their cap-weight in the one above. Invesco's RZV follows this index.
- Similarly, the CRSP US Small Cap Value Index uses Book/Price, Future Earnings/Price, Earnings/Price, Dividend/Price and Sales/Price with no further screens or adjustments. Its investment universe seems to include mid-cap value as well (it has ~1000 stocks). Vanguard's VBR and iShares ISCV passively follow this index.
- Finally, Avantis AVUV is actively managed. According to it's prospectus, "To identify small capitalization, high profitability, or value companies, the portfolio managers may use reported and estimated company financials and market data including, but not limited to, shares outstanding, book value and its components, cash flows, revenue, expenses, accruals and income ... The portfolio managers may also consider other factors when selecting a security including, industry classification, the past performance of the security relative to other securities, its liquidity, its float, and tax, governance or cost considerations, among others.". Emphasis mine - plenty of wiggle room and hard to predict or backtest performance.
- Are there any indices and passive ETFs that track the "new and improved" value factors?
- If not, is there any further research on the performance of existing indices w.r.t the new value factors? I.e. how should I adjust my performance expectations for investing in them w.r.t the results in the research papers?
- Are there any actively managed funds that publish their methodology and are also affordable for individual investors (for minimums and ERs)?
- Which value factor ETFs do you actually invest in given the considerations above?