Russell Forms Partnership With Arnott’s Firm

June 25, 2010

Russell and Rob Arnott’s Research Affiliates are teaming up to create a new family of fundamental indexes in the latest sign that investors may have an appetite for new ways to get the most out of a benchmark.

Russell Investments, the indexing company that now has its own line of exchange-traded funds in the works, will collaborate with Rob Arnott’s Research Affiliates LLC to create fundamentally weighted “alternative beta” indexes for use in ETFs, the two companies said today in a press release.

It’s the second such agreement for Newport Beach, Calif.-based Research Affiliates, which already has a partnership with FTSE that has resulted in the FTSE RAFI index family derived from FTSE’s “All Cap” benchmark indexes. The methodology for those indexes selects securities based on four fundamental factors: sales, cash flow, book value and dividends.

Many of the FTSE RAFI indexes have been licensed by Invesco PowerShares for the creation of ETFs, and Charles Schwab also offers a family of index mutual funds based on the indexes. The new agreement with Russell covers a family of indexes based on three fundamental factors instead of four, and none will overlap with the ones used in the construction of the FTSE/RAFI indexes, Arnott said in a telephone interview with IndexUniverse.com.

“I see it as further ratification of the merits of the Fundamental index concept,” Arnott said of the deal.

The first index to launch as a result of the Russell/Research Affiliates partnership will probably be a global index that’s likely to launch late in the third quarter.

Russell Sees Demand

While Russell emphasized in the press release that it continues to believe that market-capitalization weighting is the best way to measure the “investable opportunity set,” it is seeing demand from clients for the sort of indexing methodologies that Research Affiliates specializes in.

“We’ve definitely seen strong demand from our clients in the market for these types of strategies,” Rolf Agather, Russell’s head of index research and innovation, said in a separate telephone interview. The indexes are targeted at both retail and institutional investors interested in investable product strategies, Agather said.

“We really are trying to make a distinction between indexes that are used as benchmarks for comparison and these new indexes that potentially are strategies that you can put into a product to capture that exposure,” Agather said.

The Russell 3000, Russell 1000 and Russell 2000 indexes are among the most widely used benchmarks in the world of investing.

FTSE Vs. Russell?

Arnott told IndexUniverse.com that he doesn’t view the yet-to-be-launched indexes as direct competitors to the FTSE RAFI indexes, describing them instead as “complementary.”

“I think it’s much more of a net positive for everybody, rather than A vs. B,” Arnott said, noting that, although benchmarks like the S&P 500 and Russell 1000 compete with each other, when the Russell indexes began to grow in popularity, S&P’s index business also grew as it lent further legitimacy to the concept of market-cap weighting.

Russell’s Agather doesn’t quite see eye-to-eye with Arnott, saying he sees the new index series as a competitor to the FTSE RAFI indexes. The competition may have more to do with the main indexes the two companies offer than with the products they are designing with Research Affiliates.

“We obviously think we’ve got a much better concept,” Agather said, noting that most U.S. institutional assets are indexed to Russell benchmarks.

“To the extent that someone starts using a fundamental index strategy, it’s going to be more consistent, more robust if it’s been developed from a Russell index,” he added. “What underlies the Russell fundamental series are the Russell indexes. We think that just provides a more consistent framework for people that are already using us as a benchmark.”

 

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