Factor Investing Strategies

This course outlines how to apply factor models to generate alpha, to hedge against direction and to select the best instruments for a trade.

Factor models such as PCA allow investors to gain insights into market mechanisms and translate these into profitable trading strategies and asset selection decisions. Moreover, factor models can be used to assess the exposure of a portfolio to the direction of the market and to hedge it appropriately. Numerous hands-on exercises and case studies will teach participants how to exploit these benefits of factor models for their work.

As the factors and non-directional trading strategies constructed with factor models are mean reverting, the return prediction techniques from the statistical arbitrage course can be applied. While both stat arb courses together provide the full toolkit, they can be taken independently of each other.

22 - 23 November 2018


2 Days


London, UK – Tower Hotel, London E1

Course Fee:

£1890 + VAT


The link between factor models and mean reversion

  • Basic factor equations, Covariance matrices, Eigenvectors & values
  • The theory of PCA
  • Advantages of PCA (principal component analysis)
  • Overview of factor models
  • Computational aspects

Interpretation of the results

  • Insights into market mechanisms via the eigenvectors and factors of a PCA
  • What drives markets and how?
  • How strong are directional impacts on spread trades?
  • How markets react to external shocks, e.g. the vol surface to a data release?

Using PCA to understand the driving forces of several markets

  • Bond markets: How do directional moves impact the yield curve?
  • How steep is the yield curve after taking the yield level into account?
  • Credit markets: Decomposing corporate bond price action into a rating factor and a sector factor
  • Option markets: Decomposing the vol surface by expiries and underlyings
  • Commodity markets: Analysing crack and crush spreads net of the direction
  • FX markets: Which currencies tend to move together?
  • What drives the relative valuation of these clusters of currencies?
  • Equity markets: An analytical basis for pairs trading

Decomposing a market into directional (beta) and non-directional (alpha) factors

  • Calculating hedge ratios through PCA
  • Trades with a defined factor exposure and hedged against all other factors
  • Using PCA to analyse the exposure of trading positions & portfolios
  • Using PCA for market reconstruction and forecasting
  • Using PCA to screen the market for trading opportunities
  • Using PCA for asset selection

Combining the elements into a step-by-step guide for PCA-based analysis and trading:

Potential problems and pitfalls of PCA-based trading

  • Correlation of factors during subperiods
  • Changing eigenvectors
  • How to monitor and address these problems

Using PCA to construct trading strategies

  • Scenario analysis: How will the US yield curve to react to a rate hike?
  • Screening bond and equity markets for trade ideas
  • Analyzing PCA residuals to choose the best instruments to express a view
  • Hedging a portfolio via factor immunization
  • Constructing pairs trades
  • Trading the option vol surface
  • Trades between different asset classes