Smart beta indexing is gaining traction in the exchange traded fund space as a strategy-driven investment that follows predetermined algorithms to potentially generate higher returns but that does not mean they can’t trail broader markets over the short-term.
Back-tested data and some more older alternative index-based ETFs have generated long-term outperformance, but short-term volatility could weigh on the investment strategies.
For instance, the Guggenheim S&P 500 Equal Weight ETF (NYSEArca: RSP), which equally weights S&P 500 stock components, has generated an average annualized return of 9.4% over the past 10-years, whereas the market-cap-weighted S&P 500 Index has returned an average 8.0%. Over the past month, though, RSP dipped 0.7% while the S&P 500 fell 0.6%.
Looking at small-caps, the iShares Russell 2000 ETF (NYSEArca: IWM) is up over 3% this year while something like the First Trust Small Cap Core AlphaDEX Fund (NYSEArca: FYX), the largest alternative index small-cap ETF, is 1.6% higher.
Investors should not blindly believe that these investments are a cure-all for their portfolios. Instead, it is important to understand how the funds work as these smart-beta ETFs can fall behind the market, writes Mary-Lynn Cesar for Kapitall.