Researchers began by constructing a News Sentiment Index to analyze the effectiveness of sentiment on its own; in step 2 they would seek to test how well it performed as an overlay to a traditional factor QIS.

The Index used sentiment measured over a variety of smoothing periods, ranging from 1 week to 90 days (3 months) to analyze the impact of both short-term and longer-term sentiment.

Differing portfolio rebalancing periods were also experimented with from daily to monthly.

The Sentiment Index’s signals were then applied to a long-short, market, and factor neutralized APAC equities portfolio.

The results were overall promising. The index smoothed over a 90-day period, with monthly rebalancing, delivered an IR above 0.7 and an Annualized Return above 400bps for an AUM of $1B, with an Annualized Turnover under 1500%.

As an Overlay to a Traditional Multifactor Strategy

Next, researchers wanted to see whether the signals derived from sentiment could enhance a multi-factor QIS and if so by how much?

The traditional multi-factor framework for Asian markets consisted of Momentum, Low Size, Low Volatility, Growth, Value, and Quality factors.

An analysis using MSCI’s GEM3 model factor exposures framework suggested sentiment was fairly uncorrelated to other factors, “especially over the short aggregation windows, which correspond to the fastest signals.” According to Peter Hafez, Chief Data Scientist at RavenPack. This held out the promise sentiment could add value.

With the addition of sentiment, multi-factor models showed consistent improvement. As an overlay to a $1B AUM strategy, sentiment increased the IR by 64%, from 0.45 to 0.74, and the Annualized Return by 35%, from 167bps to 225bps. A further advantage of the multi-factor approach was the lighter turnover and slightly larger portfolio sizes.

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