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Quality vs. Value: The Ongoing Argument in Factor Investing

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The perennial debate in factor investing: Quality versus value

In the world of investing, there are three major categories: active, passive, and factor investing. Active fund management relies heavily on the expertise and decisions of a fund manager, while passive investments track benchmark compositions for benchmark-linked returns. Factor investing combines aspects of both strategies and focuses on factors like size, momentum, low volatility, quality, value, and growth to deliver superior risk-adjusted returns.

Two of the most researched factors in factor investing are “quality” and “value.” Quality factors prioritize high return on equity, stable earnings growth, and low financial leverage, while value factors emphasize low price-to-earnings, low price-to-book, and high dividend yield. Analyzing historical data, there have been instances where quality or value outperformed their parent indices, depending on the time frame considered.

Looking at calendar year returns, indices like Nifty 200 Quality 30 and Nifty Midcap 150 Quality have outperformed their parent indices around 58% of the time. In contrast, the Nifty 50 Value index outperformed its parent index 67% of the time in the last 15 years. When considering rolling five-year returns, the outperformance rates vary, with quality indices showing more consistent results.

One important aspect to consider is the drawdowns and volatility associated with different factors. Quality stocks tend to trade at premium multiples, emphasizing durable business models and strong financials. In the Indian market, focusing on quality can offer both return potential and downside protection, especially during times of volatility.

Vikaas M. Sachdeva, the managing director of Sundaram Alternate Assets, highlights the importance of quality investing in the evolving landscape, where long-term returns and resilience are key factors for investors seeking stability and growth.

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