**Single factor “smart beta” indicized strategies that were once exclusive to the realm of active management.** Multifactor indexing is beginning to garner much interest as the newest chapter of index innovation.

It’s a natural conjecture that if single factors are successful, combining more than one factor should prove even more beneficial. While any combination of two successful factors theoretically offers a diversification benefit, some combinations amount to more than the sum of their parts. The benefit of a combination depends on the risk/return profile of the individual factors and the correlation between them. Even if the risk/return profiles of factor indices are similar, some factor pairings can result in greater diversification benefits by lowering tracking error and raising information ratios. For example, in the illustration of S&P 500 Low Volatility Index and the S&P 500 Momentum Index combination below, any allocation between the two factor indices offers a better risk/return payoff than either index combined with the S&P 500. But while Low Volatility offers a much better risk/return payoff on an absolute basis, **a 50/50 blend of the two factor indices yielded a much higher information ratio**.

**There is more than one way to skin the multi-factor index cat.** Rather than simply bolting together single factor indices, screening for stocks that exhibit characteristics of more than one factor is a highly viable alternative approach. This stock level approach will almost certainly provide higher and more balanced factor exposures than simple combinations of the same single factor indices. **But combinations of single factor indices have the advantage of simplicity; they offer great flexibility in customizing exposures**. One investor might like a 50/50 split between Low Volatility and Momentum; another might prefer to tilt more decisively to one or the other. Combining single factor indices is an efficient way to make that happen.