QS Investors Diversification Based Investing Whitepaper - FTSE

2 | The DBI investment process
DBI takes into account the observed characteristics of
markets and indices described earlier, and uses them to
create a more diversified index. The strategy’s investment
process has four steps:
1 | Assign all stocks to risk units defined by the key drivers
of risk: country and industry
2 | Identify highly correlated risk units, and group them in a
single “cluster”
3 | Weight the clusters and the risk units in them equally.
The objective of equal weighting is to achieve a high
level of diversification
4 | Rebalance the index to capture changes in market
dynamics
These four steps are described in more detail.
FTSE DBI Page 8
Step 1 | Partition
Figure 6: All Risk Units and example of two within the FTSE DBI Developed Index
Australia
Austria
Belgium
Canada
Denmark
Finland
France
Germany
Greece
Hong Kong
Ireland
Italy
Japan
Netherlands
Norway
Portugal
Singapore
Spain
Sweden
Switzerland
United Kingdom
United States
Basic
Materials
Consumer
Goods
Consumer
Services
Financial
Services
Risk Unit 1
The objective of this step is to group stocks with common
drivers of return. As the country that a company resides in
and the industry they compete in are the key drivers of risk
in a diversified portfolio, we use FTSE’s categorization of
stocks to partition each stock in to a single country/industry
“risk unit”, for example Netherlands Financial Services or
Japanese Utilities. Every stock in the relevant FTSE index,
e.g. FTSE Developed Markets, is assigned to one of these
risk units. Figure 6 shows all Risk Units and highlights these
two examples.
Health
Care Industrials
Oil &
Gas Technology
Telecommunications
Utilities
Risk Unit 2