What’s Inside the S&P China A-Share Factor Indices? Sector Allocation versus Stock-Selection Effect

After examining the risk factor exposure of the S&P China A-Share Factor Indices in our previous blog, we further explore the sector bias and associated impact on index performance.

Apart from the S&P China A-Share Enhanced Value Index, all the S&P China A-Share Factor Indices tended to underweight the Financials sector,[1] though other unique sector biases were observed in various factor indices. While the S&P China A-Share Enhanced Value Index was historically overweight in the Financials and Materials sectors, the S&P China A-Share Short-Term Momentum Index was tilted more toward the Information Technology and Health Care sectors. The S&P China A-Share Low Volatility Index, which weights constituents by the inverse of their volatility, allocated more to the Utilities and Industrials sectors, while the S&P China A-Share Quality Index showed bias toward the Consumer Staples and Health Care sectors. The S&P China A-Share Dividend Opportunities Index had an average sector bias toward Consumer Discretionary and Industrials (see Exhibit 1).

Despite significant sector biases observed among the S&P China A-Share Factor Indices, the performance attribution analysis over the period from July 31, 2006, to April 30, 2019, indicated that, except for the S&P China A-Share Quality Index, a larger part of the active returns were attributed to the stock-selection effect (see Exhibit 2).

Apart from the S&P China A-Share Short-Term Momentum Index, the stock-selection effect contributed positive active returns across the majority of sectors for all of the factor indices, implying the effectiveness of these factor strategies across different sectors. In comparison, active returns attributed to the sector allocation effect were less consistently positive across sectors, except for the S&P China A-Share Short-Term Momentum Index (see Exhibit 3). The underweight in Financials, one of the best-performing sectors over the studied period, resulted in negative sector excess return contributions in the small cap portfolio, S&P China A-Share Dividend Opportunities Index, and S&P China A-Share Quality Index.

[1] Compared to the eligible universe, which includes constituents of the S&P China A BMI and S&P China A Venture Enterprises Index with a float-adjusted market capitalization of no less than RMB 1 billion and a three-month average daily value traded not below RMB 20 million.

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