At the end of last year, smart and strategic beta or factor-driven exchange traded funds accounted for nearly 20% of total industry assets. With more advisors and institutional investors adopting these ETFs, that percentage is likely to grow.
As of late August, assets under managements across smart beta ETFs totaled $350 billion, a 30% year-over-year increase. Much of that growth has been driven by institutional investors, including large money managers, endowments and pensions.
Strategic beta ETF assets are on the rise and so are the number funds dwelling in this space. Whether they are factor-based funds or ETFs rooted in dividend strategies, scores of the more than 160 new ETFs that have come to market this year adhere to something other than traditional market cap-weighted methodologies.
With the number of strategic beta offerings expanding at a rapid clip, investors should remember that their application of these funds is equally as important as the fund’s themselves. As Ritholtz Wealth Management Director of Research Michael Batnick notes, some of the most popular smart beta strategies do work, but investors also have a tendency to chase some of these strategies at inopportune times.
With that important advice in mind, we take a look at some of the overlooked, though still compelling strategic beta ETFs on the market today.
Schwab Fundamental U.S. Large Company Index ETF (NYSEArca: FNDX)
Assets under management: $214 million
Year-to-date performance: Up 11%
Comment: A lot of ETFs’ names imply one thing but fail to deliver on the advertised strategy. FNDX is not one of those funds. The rapidly growing ETF (it has more than quadrupled in size this year), focuses on retained operating cash flow, adjusted sales, and dividends plus buybacks. [This ETF has the Fundamentals Down]
While not an overt buyback, dividend or value ETF, FNDX marries those components through large weights to sectors that can be considered value groups (think energy and financial services) as well as allocations to some of the largest share repurchasers and companies that have long histories of increasing dividends.
FlexShares International Quality Dividend Index Fund (NYSEArca: IQDF)
AUM: $345.6 million
YTD performance: Down 3.4%
Comment: IQDF tries to reflect the performance of the Northern Trust International Quality Dividend Index, which is comprised of developed ex-U.S. and emerging market securities screened to maximize “quality,” target a beta similar to the parent index and improve on the parent index’s dividend yield.
Translation: This is a smart beta ETF that focuses on fundamental factors, such as profitability, solid management and reliable cash flow. After all, profitability and free cash flow generation are vital tells regarding a company’s ability to continue paying and raising dividends.
PowerShares S&P 500 High Quality Portfolio (NYSEArca: SPHQ)
AUM $458.8 million
YTD performance: Up 12.9%
Comment: SPHQ is one of the elder statesmen of the quality ETF category, having come to market in late 2005. The ETF’s quality tilt comes by way of emphasizing companies’ long-term earnings growth dividend-paying potential.
PowerShares FTSE RAFI Emerging Markets Portfolio (NYSEArca: PXH)
AUM: $375.7 million
YTD performance: Flat
Comment: PXH is a fundamentally-weighted ETF focusing on the virtues of book value, cash flow, sales and dividends. Additionally, the ETF is a credible avenue for value investors looking to access emerging markets. At the end of the third quarter, the FTSE RAFI Emerging Markets Index traded at half the P/E of the FTSE RAFI US 1000 Index, indicating that emerging markets stocks could be well-positioned for superior long-term returns. [The Contrarian Approach to Smart Beta ETFs]
WisdomTree LargeCap Value Fund (NYSEArca: EZY)
AUM: $28.6 million
YTD performance: Up 11.8%
Comment: Another smart beta ETF with a value tilt, EZY tracks the WisdomTree LargeCap Value Index (WTLVI). That index emphasizes earnings quality. That means the index focuses on “Price to Earnings Ratio, Price to Sales Ratio, and Price to Book Value and 1-year change in stock price. The top 30% of companies with the highest value scores within the 1000 largest companies by market capitalization are included in the Index. Companies are weighted in the Index annually based on earnings,” according to WisdomTree.
Value here means a quarter of EZY’s weight going to financials with another 27.7% combined going to industrials and discretionary names.
SPDR MSCI EAFE Quality Mix ETF (NYSEArca: QEFA)
AUM: $5.7 million
YTD performance: Down 4.8%
Comment: QEFA applies the quality factor to the standard EAFE ETFs investors have become familiar with over the years. The ETF, which debuted in June making it the newest ETF on this list, includes an equal-weighted combination of the MSCI EAFE Value Weighted, MSCI EAFE Minimum Volatility and MSCI EAFE Quality Indices in a single composite index.
Guggenheim S&P Equal Weight Utilities ETF (NYSEArca: RYU)
AUM: $161.2 million
YTD performance: Up 22%
Comment: RYU is by no means so small that investors need to avoid the fund for fear of wide spreads, but in the utilities ETF conversation, it is overlooked. RYU merely applies the equal-weight methodology that has proven highly effective (and popular) with broad market funds to the sector level. Indeed RYU has been highly effective this year. Its 22% year-to-date gain makes it 2014’s top-performing utilities ETF.