Colonial First State (CFS) has put real money behind its new alliance with Research Affiliates, awarding the fundamental indexing process sizeable allocations in its flagship FirstChoice balanced funds.

CFS yesterday confirmed I&T News’ earlier story that it would establish a wholly-owned subsidiary, RealIndex Investments, with exclusive retail and wholesale distribution rights to the Research Affiliates Fundamental Index (RAFI) methodology in Australia.

The RAFI methodology overturns traditional cap-weighted indexation, instead ranking companies according to their "economic footprint", in the words of CFS chief executive Brian Bissaker, using fundamental measures such as sales, cashflow, dividend yield and book value.

“It’s a smarter way to index. Traditionally, indexes use market capitalisation to determine

portfolio weights. The RAFI methodology reflects a company’s economic footprint using

fundamental measures of size, rather than relying solely on market price, which is a one

dimensional view,” Bissaker said.

FirstChoice head of investments, Scott Tully, said he believed the RAFI methodology would outperform cap-weighted indices both globally and locally, and would do so with less volatility.

The $3.2 billion FirstChoice Growth (80:20) fund will implement a 4.3 per cent allocation to RAFI, split between 2.8 per cent in global equities and 1.5 per cent in Australian small caps.

The $5.2 billion FirstChoice Moderate (60:40) fund will take a 2.1 per cent exposure to RAFI, which will sit in the global equities allocation.

Tully said the RAFI exposures in all FirstChoice balanced funds would be increased if they performed as expected.