As is the case with other investment factors, sometimes new approaches can work well with quality. Enter the Principal Quality ETF (NasdaqGM: PSET).
PSET tries to reflect the performance of the Nasdaq U.S. Price Setters Index, which takes mid- and large-cap U.S. companies from the Nasdaq U.S. Large Mid Cap Index that exhibit high degrees of purchasing power. Essentially, these companies can raise prices of their products or services without experiencing diminished demand. Additionally, the components show consistent sales growth, high/stable margins, quality earnings, low leverage and high levels of profitability.
The quality investment factor can help investors focus on companies that are better equipped to handle uncertainties the markets may throw at us, sifting out corporations with questionable profit outlooks and rising debt levels as a way to hone in on those with solid fundamentals.
PSET’s index uses a quantitative model designed to identify equity securities of mid- to large-capitalization companies in the Nasdaq US Large Mid Cap Index (the “parent index”) that exhibit high degrees of pricing power. First off, the index filters out 550 of the top companies within the index based on market capitalization.
PSET: Poised for Potential
As a better way to manage risk and limit losses during volatile periods, quality has been one of the few equity styles to post positive excess returns during periods when stocks sold off sharply in the first quarter. Additionally, the quality factor can still help capture growth potential as markets recover. Quality stocks have historically outperformed the broad market across cycles with less risk, producing more attractive risk-adjusted returns over time.
PSET looks for companies with favorable pricing power. In order to do this, it looks at the following characteristics: high-quality metrics, a high degree of profitability, brands with a strong market presence, and a bulletproof business model that can withstand various market cycles.
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. PSET’s benefits are on display this year.
With the economy and equity markets still beholden to the coronavirus, the quality factor and PSET could take on added importance in the waning stages of 2020.
As more analysts are calling for a shift to quality or companies with healthy balance sheets and strong cash flow, ETF investors can also focus on this segment of the markets for a more defensive portfolio tilt.
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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.