Encouraging investors to maintain a diversified portfolio is challenging when one asset class has outperformed the others in recent years.
Many investors are hesitant to allocate to value, as many value strategies have lagged in recent history. While U.S. large cap growth stocks performed well during the past 12 months¹, current valuations are exceptionally high.
Long-term investors may be able to enhance returns by maintaining a well-diversified portfolio and incorporating the VictoryShares Free Cash Flow ETF (VFLO). The fund works as a key tool to improve value exposure while complementing growth exposure.
See more: “Mythbusting in Finance: Unraveling Dividend Growth Misconceptions Among Advisors”
Maintain Exposure to Growth While Optimizing for All Environments
With over $244 billion in assets under management, the Invesco QQQ Trust (QQQ), which tracks the Nasdaq 100 Index, is a favorite growth ETF among investors. The fund has returned nearly 40% in the past year but is also highly concentrated. Notably, the Magnificent Seven stocks comprise 40% of the fund by weight as of February 6, 2024 per ETF Database.
Historically, if a company managed to generate significant profits, competitors would come in, and then profits would slow, Mack said. The Magnificent Seven has managed to defy that. “They get bigger and continue to grow,” he added. “Up until the last decade, buying the top companies of any given sector has not worked out well for investors.”
While QQQ has generated attractive returns recently, investors should recognize that future performance is not guaranteed. Generally, performance across the market can be particularly volatile during periods of high valuations. High valuations in public companies, seen in metrics like the price-to-earnings (P/E) ratio, indicate investors are paying more for a company’s earnings, expecting future growth. This could mean that a company’s price is more than it is actually worth.
In 2022, when investors began getting wary of the high valuations underpinning U.S. large cap growth stocks, QQQ significantly underperformed the broader market, declining 33% during the year.
Why VFLO & QQQ Could Pair to Create an All-Weather Portfolio
History has shown that when investors get nervous about valuations, they tend to flock to companies with high free cash flow yields. “If they’re worried about the companies with high valuations, they’re going to gravitate towards the companies with low valuations,” Mack said.
Therefore, VFLO could work as a complement to QQQ in a portfolio. VFLO, which uses free cash flow as a metric, captures stocks trading at a discount (i.e., value stocks) with favorable growth prospects.
Looking back at 2022 when the growth-oriented Nasdaq-100 Index underperformed the market, the free cash flow yield segment performed well. QQQ and VFLO have tended to work in opposite directions. That potentially makes them a complementary pair, effectively creating what we believe is an all-weather portfolio.
“Having something on the value side and the growth side could potentially give you an all-weather portfolio,” Mack added. “Some years we could see the growth side win, and other years, the value side may win.”
For more news, information, and analysis, visit the Free Cash Flow Channel.
VettaFi LLC (“VettaFi”) is the index provider for VFLO, for which it receives an index licensing fee. However, VFLO is not issued, sponsored, endorsed, or sold by VettaFi. VettaFi has no obligation or liability in connection with the issuance, administration, marketing, or trading of VFLO.
Notes
1/ Measured by the Russell 1000 Growth Index up 34.99% as of 1/31/2024; Source: Bloomberg.
Price to Earnings Ratio (P/E Ratio) is the proportion of a company’s share price to its earnings per share.
The Nasdaq-100 Index is a modified-capitalization-weighted index designed to measure, based on market capitalization, 100 of the largest nonfinancial domestic and international companies listed on The Nasdaq Stock Market®.
VFLO Disclosure:
Carefully consider VFLO’s investment objectives, risks, charges, and expenses before investing. To obtain a prospectus or summary prospectus containing this and other important information, visit http://www.vcm.com/prospectus. Read it carefully before investing.
The VictoryShares Free Cash Flow ETF (VFLO) prospectus, fund information, and holdings can be found here.
All investing involves risk, including the potential loss of principal. Please note that the fund is a new ETF with a limited history. The Fund has the same risks as the underlying securities traded on the exchange throughout the day. Redemptions are limited, and commissions are often charged on each trade. ETFs may trade at a premium or discount to their net asset value. The Fund invests in securities included in, or representative of securities included in, the Index, regardless of their investment merits. The performance of the Fund may diverge from that of the Index. Investments concentrated in an industry or group of industries may face more risks and exhibit higher volatility than investments that are more broadly diversified over industries or sectors.
Investing in companies with high free cash flows could lead to underperformance when such investments are unpopular or during periods of industry disruptions. The fund could also be affected by company specific factors that could jeopardize the generation of free cash flow investments. The value of your investment is also subject to geopolitical risks such as wars, terrorism, environmental disasters, and public health crises; the risk of technology malfunctions or disruptions; and the responses to such events by governments and/or individual companies.
The information in this article is based on data obtained from recognized services and sources and is believed to be reliable. The securities highlighted, if any, were not intended as individual investment advice.
Distributed by Foreside Fund Services, LLC (Foreside). Foreside is not affiliated with Victory Capital Management Inc. (VCM), the Fund’s advisor or with Invesco Capital Management LLC or its affiliates. (Invesco). Neither Foreside nor VCM are affiliated with VettaFi or Invesco.
The VictoryShares Free Cash Flow ETF seeks to offer exposure to high-quality, large-cap U.S. stocks that trade at a discount and have favorable growth prospects. VFLO seeks to provide investment results that track the performance of the Victory U.S. Large Cap Free Cash Flow Index (the Index) before fees and expenses. As of 3/11/2024, the total expense ratio was 0.66%, AUM was $163MM and the inception date of the fund is 6/21/2023.
QQQ Disclosure:
An investor should consider investment objectives, risks, charges and expenses carefully before investing. To obtain a prospectus, which contains this and other information about the Invesco QQQ, a unit investment trust, please visit invesco.com/fundprospectus. Please read the prospectus carefully before investing.
The Invesco QQQ ETF (QQQ) prospectus, fund information, and holdings can be found here.
There are risks involved with investing in ETFs, including possible loss of money. Shares are not actively managed and are subject to risks similar to those of stocks, including those regarding short selling and margin maintenance requirements. Ordinary brokerage commissions apply. The Fund’s return may not match the return of the Underlying Index. The Fund is subject to certain other risks. Please see the current prospectus for more information regarding the risk associated with an investment in the Fund. The Index and Fund use the Industry Classification Benchmark (“ICB”) classification system which is composed of 11 economic industries: basic materials, consumer discretionary, consumer staples, energy, financials, health care, industrials, real estate, technology, telecommunications and utilities. Investments focused in a particular sector, such as technology, are subject to greater risk, and are more greatly impacted by market volatility, than more diversified investments.
Typically, security classifications used in calculating allocation tables are as of the last trading day of the previous month. The sponsor of the Nasdaq-100 TrustSM, a unit investment trust, is Invesco Capital Management LLC (Invesco). Nasdaq, Nasdaq-100 Index, Nasdaq-100 Index Tracking Stock and QQQ are trade/service marks of The Nasdaq Stock Market, Inc. and have been licensed for use by Invesco, QQQ’s sponsor. Nasdaq makes no representation regarding the advisability of investing in QQQ and makes no warranty and bears no liability with respect to QQQ, the Nasdaq-100 Index, its use or any data included therein. This does not constitute a recommendation of any investment strategy or product for a particular investor. Investors should consult a financial professional before making any investment decisions. Distributed by Invesco Distributors, Inc.
Invesco QQQ ETF tracks the Nasdaq-100® Index — giving you access to the performance of the 100 largest non-financial companies listed on the Nasdaq. The fund and the index are rebalanced quarterly and reconstituted annually. As of 3/11/2024, the total expense ratio was 0.2%, AUM was $252.60B and the inception date of the fund is 3/10/1999.
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