The value factor has been repudiated for close to a decade, but a fresh approach to this once timeless classic may prove useful for investors. The Principal Contrarian Value Index ETF (NasdaqGM: PVAL) can provide that breath of fresh air.

The Contrarian Value Index ETF will try to reflect the performance of the Nasdaq U.S. Contrarian Value Index, which includes companies taken from the Nasdaq US Large Mid Cap Index but follows a quantitative model designed to identify those that appear undervalued by the market relative to their fundamental value.

Many traditional ETFs in this category use prosaic measures of value, making avoiding value traps difficult. PVAL and its underlying index take a different approach.

“The Nasdaq US Contrarian Value Index (launched on June 26, 2017) attempts to tackle this problem by introducing a more refined approach,” said Nasdaq global product development specialist Mark Marex in a recent note. “Beginning with the constituents of the Nasdaq US Large Mid Cap Index, the index methodology ranks all Financials separate from non-financials (excluding Utilities) stocks on book yield (i.e., book value divided by price) for the most recent 28 quarters, and calculates the median book yield of the benchmark.”

Important Distinctions

Although it’s an index-based product, PVAL has more flexibility than many of its passive rivals, a trait that could prove advantageous for long-term investors.

In a bear market, securities in the top 30% by book yield are selected for the Index. In a normal market, the initial book yield rankings are adjusted using calculations related to leverage, twelve-month price volatility, and forward earnings dispersion as of the most recent quarter-end; those in the top 30% based on the adjusted rankings are selected for the Index, according to the issuer.

“This is a crucial distinction from other more common approaches, as Financials & Utilities tend to score differently from other sectors on valuation metrics that consider book value,” notes Marex.

PVAL has no utilities exposure and a weight of just over 2% to the embattled energy sector, a group that can loom large in traditional value funds.

“Another notable distinction is the methodology’s consideration of underlying market conditions,” said Marex. “If the most recent median book yield of the benchmark is greater than 2 standard deviations plus the average of the median for the last 28 quarters, the market condition is classified as a ‘bear market’; otherwise, it is classified as a “normal market.” This leads to further disparities in how valuation and other metrics are applied.”

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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.