Advisors Can Consider ETF Model Portfolio Solutions for Volatility

Financial advisors should consider timely tactical models and the importance of tilting away from market-cap investments with strategies that use factor or smart-beta exchange traded funds.

In the recent webcast, ETF Strategists to Highlight Models ​​​​​​to Soften Portfolio Volatility, Brendan Ryan, Assistant Portfolio Manager, Beaumont Capital Management, pointed out that this is not the normal recession the markets are used to experiencing. Investors are picking the winners and losers during this current downturn as some areas of the market are better equipped to cope with the sudden disruption. For instance, we see that internet names have outperformed while brick-and-mortar retail names have underperformed. Meanwhile, risk-free assets are trading at a premium to risk assets, which reflects the ongoing desire for more stable or quality exposure.

Looking ahead, Denis Rezendes, Assistant Portfolio Manager, Beaumont Capital Management, argued that investors shouldn’t fight the Federal Reserve. As previous periods of rapid interest rates cuts have shown, a traditional investment portfolio mix has enjoyed significant gains following any supportive central bank action.

At Beaumont Capital Management, they have crafted a BCM Decathlon Tactics Investment ETF Universe to better help financial advisors capture this recovery period ahead. The Decathlon ranks and selects from the ETFs in its investment universe based on criteria like distinct characteristics or unique market exposure, 10+ years of performance history, ost for desired exposure, adequate liquidity, long-only, and screens for negative tax ramifications. The resulting portfolio includes a 10% tilt toward alternative ETFs, 10% global equity ETFs, 10% developed international ETFs, 40% U.S. equity ETFs and 30% fixed-income ETFs.

Rezendes argued that fundamentals, economics, and geopolitics are constantly changing, which creates market noise. The noise may cause investor biases and irrational behaviors that can then create opportunities to be capitalized upon.

“Human biases and the associated emotional investing can create distinguishable patterns and investment opportunities,” Rezendes said. “Leveraging machine learning within a rules-based system can help you capitalize on the irrational behavior of market participants.”

The Decathlon identifies patterns like strong momentum, decreasing volatility, and low correlation and creates a rules-based investment methodology that can capitalize on these market inefficiencies.

John Davi, Founder and Chief Investment Officer, Astoria Portfolio Advisors; and David Clark, President and Head of Business Development, Astoria Portfolio Advisors, also highlighted an alternative strategy beyond traditional market-cap weighting. Specifically, they argue that investors should focus on quality, which is one of the few factors that exhibit persistent, pervasive, and robust characteristics. The highest quintile of high quality stocks has historically produced the highest Sharpe Ratio or best risk-adjusted returns over time.

“In an environment where earnings are going to decline, we believe companies with solid balance sheets are likely to be rewarded on a relative basis,” according to Astoria Portfolio Advisors.

“Quality is a factor which historically has historically demonstrated relatively attractive risk-adjusted return characteristics compared to the overall market,” they added.

On the back of client demand, Astoria has designed a portfolio of 30 U.S. high quality growth stocks to help navigate the heightened volatility environment. Astoria’s High Quality Growth US Stock Model incorporates a quantitative and systematic approach. There is no active stock picking, but a rules-based approach selects components that have relatively attractive balance sheets and earnings growth profiles.

Additionally, the strategists highlighted Astoria’s Enhanced Income Model, which targets a 4% yield with comparable levels of risk and duration, for those more income-minded investors. The portfolio includes about 20% equities and 80% fixed income.

Financial advisors who are interested in learning more about ETF model portfolios can watch the webcast here on demand.