Original Release on August 26th, 2021: Equity investors have applied factor-driven strategies for years, but the approach has seen slow adoption in bond markets. Here’s why that may be changing.----- Transcript -----Andrew Sheets This week we are bringing you 4 encores of deep dives into different kinds of investing we consider at Morgan Stanley. Thanks to all our listeners for a great year and happy holidays! Andrew Sheets Welcome to Thoughts on the Market. I'm Andrew Sheets, Chief Cross-Asset Strategist for Morgan Stanley, Vishy Tirupattur And I am Vishy Tirupattur, Head of Fixed Income Research at Morgan Stanley. Andrew Sheets And on this special edition. And on this special edition of the podcast, we'll be talking about factor investing strategies and liquidity in corporate credit markets. It's Thursday, August 26th, at 3:00 p.m. in London Vishy Tirupattur And 10:00 a.m. in New York. Andrew Sheets So Vishy, before we start talking about factor investing and credit, we should probably talk about what is factor investing and why are we talking about it. So, what is this concept and why is it important? Vishy Tirupattur Factor investing whose intellectual roots are from a seminal paper from two University of Chicago professors in the early 90s, Eugene Fama and Ken French. It effectively is a way of identifying companies to invest using rules based systematic investing strategies, be it identifying quality, identifying value, identifying momentum or volatility or risk adjusted carry. A bunch of these strategies involve setting up a set of rules and systematically in following those rules to build a portfolio. And we've seen that these strategies in the context of equities have substantially outperformed more discretionary strategies. Andrew Sheets So you can kind of think about it as the Moneyball approach to investing, that you think over time doing certain types of things in certain situations over and over again systematically is going to ultimately deliver a better long run result. Vishy Tirupattur Exactly right. Andrew Sheets So you mentioned that this has been a strategy that's been around a long time in equity markets. Why hasn't it been around in credit? And what's changing there? Vishy Tirupattur The key for systematical rules-based investing strategies or factor investing is being an abundance of liquidity in the market. And the complexity of credit markets means that this has been a big challenge to implementing these types of strategies. For example, you know, S&P 500, not surprisingly, has 500 stocks. And underlying those 500 stocks are literally thousands of bonds that underlie those 500 stocks, that weigh in maturity, in coupon, in rating, in seniority, etc... Each of these introduces an element of complexity that just complicates the challenge associated with factor investing. Andrew Sheets So Vishy, that's a great point, because if I want to buy a stock, there's one stock, but if I want to buy a bond of that same company, there might be many of them with different maturities and different coupons. They're just not interchangeable, and that does introduce complexity. Vishy Tirupattur So one big thing that's happened is the advent of electronic trading. Electronic trading today accounts for almost a third of all trading in investment grade corporate credit and in over 20% of all trading in high yield corporate credit. This has made a significant difference and enables factor investing possible in the context of credit. Andrew Sheets So more electronic trading, more portfolio trading is improved liquidity and made certain types of factors, systematic strategies possible in credit. Are ETFs a part of this story? Obviously, those represent a portfolio of credit. We're seeing rising volumes within the credit market of exchange traded funds. How do you see that playing into this trend? And what do you think is the outlook there? Vishy Tirupattur Absolutely. ETFs constitute portfolio trades and portfolio trading indee