Fidelity offers a broad array of ETF strategies, including its recently introduced suite of Fundamental ETFs. Jessica Stauth, PhD and Benjamin Treacy, CFA joined Todd Rosenbluth, Head of Research at VettaFi, to discuss this high conviction, fundamental lineup in a recent livecast hosted on the VettaFi platform.
The firm currently offers four fundamental funds for investors: the Fidelity Fundamental Large Cap Core ETF (FFLC), the Fidelity Fundamental Large Cap Growth ETF (FFLG), the Fidelity Fundamental Large Cap Value ETF (FFLV), and the Fidelity Fundamental Small-Mid Cap ETF (FFSM).
Jessica Stauth, PhD, CIO of Active Strategies, Quantitative Research and Investments at Fidelity Investments, opened with a discussion of the hybrid strategy the funds employ. All four funds use both systematic and fundamental analysis.
“Really, what we’re looking to do is feature the active management ideas here. We want to have the systematic process be sort of a scaffolding, or behind the scenes,” Stauth explained. The funds utilize bottoms-up analysis and ideas from individual Fidelity portfolio managers. These then combine into a single “style consistent and risk-managed package.”
The blended strategies look to bring active management to a core portfolio. They seek to offer competitive returns across various market environments and cycles, potentially making them an attractive long-term offering.
Blending Quantitative and Fundamental Investing
“Fidelity has a very long history of fundamental research and fundamental investing,” Benjamin Treacy, CFA, Institutional Portfolio Manager at Fidelity Investments, said. Fidelity’s continued expansion in quantitative research and capabilities laid the groundwork for the four fundamental funds.
While quantitative research has long been a part of Fidelity’s investment process, the concentrated focus unlocks new opportunities. “It’s a group that’s bringing together a lot of diverse areas of expertise that I don’t think we’d previously had working towards the same end,” said Stauth.
The diverse perspectives and ideas result in strategies with more breadth, providing risk-management capabilities.
“What these products are going to be is driven by the quality of the investment ideas that we are blending together,” Stauth explained. The strategy begins by selecting the underlying source managers that provide diversity of investment approaches. We then provide a high balance of high conviction ideas that score well across a variety of metrics. This first component entails identifying “seasoned, experienced, and successful managers,” said Stauth.
Fidelity’s Fundamental ETFs Utilize Consensus Mechanism
FFLC, FFLG, FFLV, and FFSM utilize a four-step investment process. The Fidelity Equity CIOs select the initial source portfolio managers. Next, the individual securities within each fundamental source PM’s portfolio receive a conviction score.
Stauth explained that the strategy looks “for what I would call a consensus mechanism.” If an investor wants to know why the fund owns a particular stock, the answer comes from of the PMs being overweight that stock in the underlying source portfolios. Some positions are the result of many PMs being overweight. Meanwhile, others may be the result of fewer PMs with higher conviction.
“You might see a position that we would own that would be on the basis of a thinner consensus in terms of the number of managers who hold it,” said Stauth. “However, if the managers who do hold it have a higher exposure to it, that’s going to weigh into our conviction scoring.”
The portfolio is then constructed using these highest conviction ideas. These must conform to the strategy’s risk profile as well as the respective Morningstar Style Box. “Since we have quants in the process, we actually use an optimization-based portfolio construction risk-management process,” Stauth explained.
Finally, the blended portfolio rebalances monthly. This ensures capture of and alignment with the high conviction ideas, risk profile, and Morningstar Style Box.
Balancing High Conviction Ideas While Offering Breadth
“When you’re trying to build a high conviction portfolio, you can get skewed in all sorts of different directions,” Treacy said. “We try to balance that through our process to ensure we are truly capturing the highest conviction ideas from our portfolio managers into a well-constructed portfolio.”
All four funds constrain the number of holdings they invest in. FFSM invests in approximately 200 companies, while FFLC, FFLG, and FFLV each invest in 60-150 companies. The funds also balance sector weights as well as individual stock weighting.
Learn more about Fidelity’s Fundamental suite, and full lineup of active equity ETFs here.
For more news, information, and analysis, visit the ETF Investing Channel.
Fidelity Investments® is an independent company unaffiliated with VettaFi. There is no form of legal partnership, agency affiliation, or similar relationship between VettaFi and Fidelity Investments. Nor is such a relationship created or implied by the information herein. Fidelity Investments has not been involved with preparing the content supplied by VettaFi. It does not guarantee or assume any responsibility for its content.
Disclosure Information
The Fidelity Fundamental Small-Mid Cap ETF is a Semi-Transparent Active Equity and is different from traditional ETFs. Traditional ETFs tell the public what assets they hold each day. These ETFs will not. This may create additional risks for your investment. For example: You may have to pay more money to trade the ETF’s shares. These ETFs will provide less information to traders, who tend to charge more for trades when they have less information. The price you pay to buy ETF shares on an exchange may not match the value of the ETF’s portfolio. The same is true when you sell shares.
These price differences may be greater for these ETFs compared to other ETFs because they provide less information to traders. These additional risks may be even greater in bad or uncertain market conditions. The ETFs will publish on their website each day a “Tracking Basket” designed to help trading in shares of the ETFs. While the Tracking Basket includes some of the ETF’s holdings, it is not the ETF’s actual portfolio. The differences between these ETFs and other ETFs may also have advantages. By keeping certain information about the ETFs secret, these ETFs may face less risk that other traders can predict or copy their investment strategy. This may improve the ETF’s performance. If other traders are able to copy or predict the ETF’s investment strategy, however, this may hurt the ETF’s performance.
Additional Information
Additional information for Semi-Transparent Active Equity ETFs: The objective of the actively managed ETF Tracking Basket is to construct a portfolio of stocks and representative index ETFs that tracks the daily performance of an actively managed ETF without exposing current holdings, trading activities, or internal equity research. The Tracking Basket is designed to conceal any nonpublic information about the underlying portfolio and only uses the fund’s latest publicly disclosed holdings, representative ETFs, and the publicly known daily performance in its construction. You can gain access to the Tracking Basket and the Tracking Basket Weight overlap on Fidelity.com or i.fidelity.com.
Although the Tracking Basket is intended to provide investors with enough information to allow for an effective arbitrage mechanism that will keep the market price of the Fund at or close to the underlying NAV per share of the Fund, there is a risk (which may increase during periods of market disruption or volatility) that market prices will vary significantly from the underlying NAV of the Fund.
ETFs trading on the basis of a published Tracking Basket may trade at a wider bid/ask spread than ETFs that publish their portfolios on a daily basis, especially during periods of market disruption or volatility, and therefore may cost investors more to trade, and although the Fund seeks to benefit from keeping its portfolio information secret, market participants may attempt to use the Tracking Basket to identify a fund’s trading strategy, which, if successful, could result in such market participants engaging in certain predatory trading practices that may have the potential to harm the Fund and its shareholders. Because shares are traded in the secondary market, a broker may charge a commission to execute a transaction in shares, and an investor may incur the cost of the spread between the price at which a dealer will buy shares and the price at which a dealer will sell shares.
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