By Todd Rosenbluth, CFRA
With the addition of $250 billion of new money for ETFs in the first six months of the year, advisors and investors have continued to seek out these typically low cost passive products.
As the market becomes more crowded and harder to sort through, CFRA is pleased to share our top-ranked equity ETFs outperformed the S&P 500 benchmark in the first half of 2017 by 119 basis points, while bottom-ranked ETFs lagged by 24 basis points. This is consistent with our long-term record. Of course, since our ETF rankings are not based on a three-year record or how well the product tracks an index, we believe past performance is not necessarily indicative of future results.
For some investors, the ETF selection process begins and ends with the expense ratio. To us, it is no surprise that some asset managers have enacted fee reductions in recent years. We agree that cheaper can be better and 79 of the 121 equity ETFs with an expense ratio of 0.15% or lower garner an Overweight ranking from CFRA’s proprietary ETF ranking methodology. But investors need to look beyond the expense ratio.
For example, Consumer Discretionary Select Sector SPDR (XLY) has a net expense ratio of 0.14%, 4 basis points higher than Vanguard Consumer Discretionary (VCR). While both earn an Overweight ranking from CFRA, the industry exposure they provide is distinct. XLY has more media (24% of assets vs. 22% for VCR) and Internet & catalog retail (22% vs. 19%) exposure, but a lower stake in hotels, restaurants & leisure (14% vs. 16%). CFRA thinks a review of holdings should be part of the due diligence process, rather than just focusing on costs.
Our rankings are refreshed on a daily basis, to reflect the latest fundamentals and trading activities of the ETF. For example, when one of our qualitative analysts downgrade the STARS of a key constituent or the bid/ask spread widens this could cause an ETF to drop out of the top quartile of the universe and lose its Overweight ranking.
However, some ETFs maintained their relative appeal throughout the first six months of 2017. One example is PowerShares QQQ Trust (QQQ). The Overweight ranking is aided by positive STARS and S&P Global Credit Ratings of its holdings, as well as bullish technical trends, a modest 0.20% expense ratio and a tight penny bid/ask spread. CFRA has Strong Buy or Buy recommendations on seven of its recent top-10 holdings including Apple (AAPL) and Amazon.com (AMZN); one such stock is not covered analytically.
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Another ETF that has consistently been viewed as a top ETF in 2017 is iShares Edge MSCI USA Value Factor (VLUE). CFRA’s research agrees that the stocks inside this factor-focused ETF is undervalued, based on our qualitative STARS and quantitative Fair Value recommendations. In addition, from a quality perspective, favorable S&P Global Credit Ratings offers stronger risk considerations. While the holdings are different than QQQ, including Bank of America (BAC) and General Motors (GM), here too seven of its top-10 holdings are CFRA Strong Buy or Buy recommendations.
However, some ETFs maintained their bottom quartile ranking of Underweight throughout 2017. These include some sector focused iShares US Oil Equipment & Services (IEZ) and PowerShares S&P SmallCap Energy (PSCE). CFRA has valuation and risk concerns on many energy stocks, even as these ETFs sold off in the first half.
Todd Rosenbluth is Director of ETF & Mutual Fund Research at CFRA.