Vol. 17, No. 4, 2019
Brian Ayash, Zeimowit Bednarek and Pratish Patel
As of February 2019, an investor had a choice to invest in 1,043 smart beta Exchange-Traded Funds (ETFs). These ETFs depend on well-established asset-pricing anomalies. This paper provides a theoretical foundation justifying their existence. Loosely speaking, the investment strategy from the anomalies is simple: bet against beta. We explain the
spirit of the investment strategy in a multi-factor world. In a model with heterogeneous risk-aversion agents facing margin constraints, we answer the question: What does the bet against beta strategy mean with multiple factors? Extending Frazzini and Pedersen (2014), we show that the beta is a weighted average of the factors betas. There are
two implications. First, we add to the debate between fundamental indexation and cap-weighted indexation. Second, our article answers the question: which smart beta ETFs are actually smart, theoretically?