THE UTILITY OF FACTOR INVESTING IN BUILDING YOUR EQUITY PORTFOLIO

The success of a movie at the box office can be attributed to a combination of factors, including a star-studded cast, an engaging storyline, high-paced action sequences, impressive visual effects, etc. Similarly, the returns of an equity portfolio can be attributed to various factors such as market capitalization (m-cap), momentum, value, quality, and volatility.

- JOYDEEP SEN, HARSIMRAN SANDHU

Typically, the majority of Indian mutual fund investors focus on one factor—size or m-cap, which is measured by multiplying the number of a company’s outstanding equity shares by the current market price of each share. This denotes the total value or ‘capitalization’ assigned by the entire market to that company. The largest m-cap companies are usually the largest, on parameters like top-line (sales), book value, cash flow, dividend payouts, etc. The largest m-cap companies have the highest liquidity in the stock market, due to their large investor base. M-cap and traded liquidity are strongly correlated, meaning that capitalization weighting prioritizes stocks traded more frequently, resulting in lower portfolio transaction costs or impact costs.