An Indirect, But Credible Quality Idea With This Multi-Factor ETF

The Principal U.S. Mega-Cap Multi-Factor Index ETF (NasdaqGM: USMC), as its name implies, is a multi-factor exchange, but as a home to some of most well-known domestic mega-cap stocks, the fund offers investors some worthy exposure to the quality factor.

USMC, which tries to reflect the performance of the Nasdaq US Mega Cap Select Leaders Index, is comprised of companies with the largest market capitalization taken from the Nasdaq U.S. 500 Large Cap Index and screened based on a quantitative model. The fund implements a multi-factor indexing methodology during its selection process.

USMC components include Microsoft (NASDAQ: MSFT), Amazon (NASDAQ: AMZN) and Johnson & Johnson (NYSE: JNJ), all of which are considered quality names.

Historical data confirm that the quality factor wins over the long-term as the most profitable companies have easily outpaced their less profitable peers by significant margins over longer holding periods. USMC’s benefits are on display this year.

Understanding USMC

Compared to the S&P 500 Index, the Nasdaq U.S. 500 Large Cap Index exhibits a higher overweight to the size and low-volatility factor, along with a smaller tilt toward momentum. The Nasdaq U.S. 500 Large Cap Index also includes a heavier overweight to consumer staples, healthcare, and communication services while underweight industrials, financials, real estate, consumer discretionary, and materials.

“Quality has exhibited consistent premium in large caps and more profoundly in small caps throughout its history. To harvest this premium, a long investment horizon might be required,” notes S&P Dow Jones Indices.

Historically, quality and low-volatility factors have performed well. Additionally, investors have engaged in further portfolio risk reduction.

“Quality is a well-documented premium in academic literature. Its fundamental principle can trace back as early as the 1930s when Benjamin Graham advocated buying high-quality companies with an attractive valuation,” according to S&P Dow Jones. “From empirical work over the past decade, researchers have documented quality’s persistence throughout its history.”

USMC is a strategic beta solution that seeks enhanced stability with exposure to the largest companies in the United States. The Principal U.S. Mega-Cap Multi-Factor Index ETF goes beyond traditional cap-weighted approaches to provide market-like returns with reduced volatility.

Traditional market cap-weighted indices lean toward the largest companies that have done the best during the decade-long bull market. Consequently, these market-cap weighted indices are top-heavy and are likely overweight the most overvalued companies.

For more on multi-factor strategies, visit our Multi-Factor Channel.

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.