Quality Is Now the Investment Factor to Watch

The U.S. economy is still on the mend, and while most data points indicate a resurgence is well underway, many market observers are concerned about a slower pace of growth in the second half of the year and the impact the delta variant of the coronavirus could have on riskier assets.

That’s a setup that could bode well for the quality factor and exchange traded funds like the Invesco S&P 500 Quality ETF (NYSEArca: SPHQ). While quality isn’t the most popular investment factor, it’s the one that’s recently showing signs of strength.

“Since mid-May, the global rallies in Value and Size factors have cooled, and Quality has staged a robust comeback. The catalyst: growing concerns that the rapid spread of the more virulent Delta variant and persistent supply-chain disruptions may delay or derail the global economic recovery,” according to FTSE Russell research.

And while quality lacks for fame, it’s not lacking for performance this year. Year-to-date, SPHQ, which tracks the S&P 500 Quality Index, is up 20.6% as of Aug. 9 – beating both the S&P 500 Value and Growth indexes.

A Strong Surge for Quality

A pair of interesting points are emerging that favor SPHQ. First, the quality factor is inexpensive relative to historical norms. By some measures, it’s even cheaper than broader baskets of value stocks. Second, quality has gained momentum in recent weeks.

“The about-face has been particularly stark in the US, where Value has trailed the broad market by nearly four percentage points since its May 13 peak, while Quality has outperformed by 2.5 percentage points,” adds FTSE Russell.

Aside from its 23.27% weight to financial services stocks, SPHQ isn’t heavily allocated to value sectors, meaning the fund mostly steers clear of some of the junkier fare that led value higher in the first six months of 2021. Overall, value stocks represent just about 30% of the ETF’s weight. That’s the same percentage the ETF allocates to growth stocks.

With a 37.73% weight to tech stocks, SPHQ is also equipped to capitalize on declining Treasury yields and the evolving economic cycle.

“The burst in reopening optimism last fall spurred a sharp rotation from Quality into Value, which is more heavily weighted to cyclically sensitive industries poised to profit from a reflating economy. The spike in long government bond yields earlier this year was also conducive to Value outperformance, by making the value of future earnings of the pricier, growth-heavy Quality factor less attractive,” concludes FTSE Russell.

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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.