By Cinthia Murphy
We’ve all heard that if you want access to something – anything – there’s probably an ETF for that. The go-anywhere nature of the exchange-traded fund also means that there’s a growing number of anti-that ETFs.
These funds can be great headline makers, for obvious reasons. What’s not to like about a contrarian attitude to a mainstream theme, or a flash of rebellious flair in the face of some widely accepted investment idea? It’s fun to watch a new fund try to disrupt or challenge the narrative of a well-established existing one – it makes for great storytelling.
But, like anything else packaged in an ETF wrapper, these funds aren’t just about a good story. They are actually about sharpening the tools of the trade, looking for new ways to access markets based on principles, values, themes, all in search of better risk-adjusted returns.
Whether intended as core replacements or as addition/complements/satellite positions to a core allocation, there are some interesting flavors of anti-something ETF investing.
Consider three ETF examples:
- AXS Short Innovation Daily ETF (SARK) – When anti-something means simply taking the inverse view.
The original anti-something ETF, in its simplest form, is any simple short or inverse fund.
SARK is hardly the first inverse ETF. The fund launched in 2021. But it epitomizes this “anti-something” category because it didn’t just come to market to provide investors with a -1x to disruptive growth names. SARK was about taking on Cathie Wood and her die-hard followers with a strategy that bet against ARKK – one of the most talked about funds in ETF land.
If nothing else, this was a stroke of marketing genius. And as luck would have it (the issuer would probably say it was pure brilliance), the fund came to market at the perfect time when growth stocks gave way to value names in what has been a devastating year for tech innovation and ARKK itself.
Look at SARK vs. ARKK performance so far in 2022:
Versus ARKK YTD performance:
In this face-to-face, given the inverse design, only one ETF will be a winner at any given time. SARK and ARKK will forever be separated by a mirror.
Cathie Wood herself has been quoted many times as saying that disruptive innovation (ARKK) is a long-term theme, and that standing against it is standing against the power of innovation itself. You may agree or disagree with that. But the point is that no strategy only goes up forever, and when it doesn’t, there’s a clean one-for-one anti-that strategy that can be a tactical tool to capitalize on near-term opportunities.
Just remember that inverse funds – as a general rule of thumb – can quickly fall prey to the power of daily resets and compounding. Watch out your holding period.
- Freedom 100 Emerging Market ETF (FRDM) – When anti-something means excluding offenders found in traditional benchmarks.
In some ways, FRDM has been known as the anti-China emerging market ETF.
When it first came to market some three years ago, it made a big splash with its exclusion of China in a market segment where Chinese stocks typically represent at least a third of passive market-like baskets. Look at the leaders in broad EM investing: EEM, IEMG, VWO, SCHE, etc. They are all big time investors in Chinese stocks.
In truth, FRDM can also exclude any other key emerging market staple like Brazil, for instance, based on its process. The fund challenges the old BRIC view of emerging market exposure, as well as the prevailing take on passive emerging market investing with an anti-authoritarian-governments strategy.
Since its inception three years ago, the anti-China angle has made for great headlines around FRDM, but this ETF is really about freedom as a factor that could drive better risk-adjusted returns overtime.
The investment case behind this strategy is that countries with non-democratic governments, or governments that are too heavy handed in regulation, taxation – all the “ations” that limit innovation and economic growth – are likely to underperform or lag free emerging economies.
So far this year, the fund has held up a little bit better than a traditional broad EM basked like IEMG, as seen below. The fund is also outperforming IEMG in a three-year time period.
Versus IEMG YTD Performance:
You may or may not believe in the wisdom (or folly) of excluding some of the biggest emerging economies from an emerging market allocation.
But thanks to the ETF wrapper, you can, and easily too. FRDM is a pioneer in this theme, and it has inspired others like global ex-US DMCY, which isn’t exclusionary, but reweights a global stock portfolio based on democracy metrics, tilting away from authoritarian regimes. There are also similar takes sitting in the regulatory pipeline.
- Constrained Capital ESG Orphans ETF (ORFN) – When anti-something means including the excluded by popular benchmarks.
It’s not clear whether ORFN wanted to bill itself as anti-ESG ETF, but that’s the narrative that has stuck with it because this fund invests only in industries and companies that other broad-based ESG funds exclude – tobacco, alcohol, gaming/gambling, fossil fuels, weapons, and nuclear energy.
For practical purposes, this is an anti-ESG fund. But looking deeper, this strategy is built around what we call a “business characteristic,” which in this case is capital constraint. The investment case here is that the exclusion of these industries by several ESG funds leads to capital constraints for companies in these segments, and that ultimately leads to mispricing of these stocks. That mispricing or distortion is where the opportunity for outsized gains sits.
ORFN launched in May, so it has yet to build a live track record of significance, but launch-to-date, ORFN’s performance looks like this…
Versus ESGU’s performance over the same time period (ESGU is the largest ESG ETF excluding various of the segments ORFN accesses):
A Complete ETF Tool Set
These three ETFs are just a sampling of funds that look to offer access to something other than what’s already out there or the so-called prevailing view of mainstream benchmarks and ETFs. They can get caught up in the hype that contrarian-types tend to elicit, but they are innovative ways to slice and dice markets.
From principles, to ESG, to politics, to popular themes, innovation in this space is booming. From where we sit, that’s the beauty of ETFs living up to their reputation as the ultimate democratizer of market access. Whatever you believe, there’s an ETF for that. Isn’t that grand?
(Charts courtesy of StockCharts.com.)
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