Recent broader market weakness is ensnaring exchange traded funds focusing on the quality factor. For example, the Invesco S&P 500 Quality ETF (NYSEArca: SPHQ) currently resides 10.41% below its 52-week high.
While that puts SPHQ — one of the more venerable names among quality ETFs — in correction territory, some market observers believe that now isn’t the time for investors to abandon quality wholesale. Rather, they believe that the factor and funds like SPHQ are now offering opportunity.
“Quality factor ETFs have reset considerably from highs and have one of the most attractive Composite Valuation scores across our coverage. Valuation metrics now trade near long-term averages across the group,” said Bank of America analysts in a recent note.
For its part, the $3.82 billion, five star-rated SPHQ follows the S&P 500 Quality Index — the quality counterpart to the widely observed S&P 500. There’s often fluidity in defining quality, but in the case of SPHQ, the underlying index hones in on “return on equity, accruals ratio and financial leverage ratio.”
Indicating that those are stringent criteria, SPHQ is home to just 101 stocks — far fewer than reside in comparable growth or value ETFs. SPHQ’s methodology is effective. Over the past three years, the Invesco fund beat both the S&P 500 and the S&P 500 Value Index while sporting comparable annualized volatility to both of those benchmarks. It’s not surprising that SPHQ is viewed in a bullish light among some analysts.
“SPHQ is trading at a 15.6x P/E, -0.34sd below its historical average,” adds Bank of America. “SPHQ has outperformed the S&P 500 by 2.2% YTD and has high exposure to preferred industries like Banks and Semiconductors.”
The fund allocates about 61% of its combined weight to the technology and financial services sectors — considerable overweights to those groups relative to basic broad market funds. Healthcare and industrial stocks combine for nearly 22%.
Bottom line: The current environment is conducive to considering quality, and, as noted above, the factor works well over the long term.
“We continue to favor US Quality ETFs as Quality typically outperforms the market as PMIs peak, profit growth slows, and macro volatility increases,” concludes Bank of America. “Risks ranging from higher inflation, a more hawkish Fed, and geopolitical tensions support owning high quality stocks for investors looking to deploy capital amid elevated uncertainty.”
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The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.