Two Dynamic Active ETF Strategies for Changing Market Conditions

FormulaFolio Investments is stepping into the exchange traded fund arena with two actively managed ETFs that will focus on areas of strong forward momentum.

The new ETF provider came out with the FormulaFolios Hedged Growth ETF (BATS: FFHG) and the FormulaFolios Income ETF (BATS: FFTI) on Tuesday. FFH has a 1.15% expense ratio and FFTI has a 1.00% expense ratio.

Jason Wenk, Founder and Chief Investment Officer of FormulaFolioFunds and Derek Prusa, Senior Market Analyst of FormulaFolioFunds, will act as the portfolio managers of the active ETFs.

The FormulaFolios Hedged Growth ETF will try to generate capital growth by investing primarily in domestic equity securities of any market capitalization and U.S. Treasuries through other ETFs, so the fund acts like a fund-of-funds.

FFHG’s portfolio managers will first identify trends in the equity markets, and if the market is doing well as measured by a blend of various technical momentum indicators, the model will invest in leveraged ETFs, or ETFs that use financial derivatives to amplify the returns of an underlying index. On the other hand, if FFHG’s managers find that the market is doing poorly by a blend of various technical momentum indicators, the fund’s model will invest in U.S. Treasuries or inverse equity index ETFs, or ETFs that profit from a decline in the value of an underlying benchmark.

The active ETF will not hold more than 15% of assets in leveraged or inverse ETFs.

The technical momentum indicators used include moving average crossovers, which become bearish when the shorter term averages cross below the longer term averages; oscillators, which become bearish when the current prices are closer to more recent low prices rather than more recent high prices; and price acceleration measurements, which become bearish when trading volume increases as prices are moving down, indicating faster downward price pressure, according to a prospectus sheet.

Furthermore, FFHG will include a diversified mix of U.S. equity ETFs if the market is doing well or switch to U.S. Treasury ETFs if the market is doing poorly by analyzing the nine sectors of the S&P 500 to determine sectors with the greatest momentum and lowest volatility. The fund would only invest in the single sector that has the highest risk-adjusted return, or lowest volatility and greatest momentum.

The FormulaFolios Income ETF tries to generate income by investing primarily in foreign and domestic fixed-income-related ETFs, including U.S. Treasuries, investment grade US bonds, high-yield US bonds, US aggregate bond, and international government bonds of any maturity and duration.

FFTI managers will rank the five mentioned major fixed income asset classes based on the strongest combination of yield spread and price momentum, targeting a higher price momentum and lower yield spreads. The three highest-ranked asset classes are allocated to the portfolio, while the two lowest ranked asset classes are left out.

However, if an asset class is not displaying positive momentum, it is not included in the portfolio even it is one of the three highest ranked asset classes.

The portfolio is reviewed monthly, with a maximum weight of 56.67% for high-yield US bonds and US treasuries and a maximum weight of 21.67% for US aggregate bond, investment grade US bonds, and international government bonds. When two or fewer or none of the asset classes meet the price momentum criteria, the ETF may hold short-term treasury bonds until something better comes along.

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