As ETF investors consider ways to diversify and enhance their investment portfolios, many are looking to strategies that could more precisely implement one’s convictions about the market in efficient ways.
On the recent webcast, How to Manage A Mature Bull Market With Macro-Themed ETF Strategies, Robert Nestor, President of Direxion, explained that markets exhibit cyclicality with one group outperforming another in most market environments, and many investors look to capitalize on this by overweighting favored groups relative to others. However, most investors are constrained with their long positions and are unable to take advantage of the full extent of their view that one group would outperform another.
For example, David Mazza, Managing Director and Head of Product for Direxion, outlined the various market segments that stood out in changing market environments. Over 2018, when most of the markets retreated, some areas still did relatively well with indices like the MSCI Defensives, Russell 1000 and MSCI Cyclicals outperforming or at least giving back less than areas like the MSCI EM IMI, MSCI EAFE IMI and Russell 2000. However, during the rebound so far in 2019, the Russell 2000 has been leading the charge while more conservative plays like the MSCI Defensives underperformed.
Nestor also pointed out that small long-term return differences in macro views can obscure much larger interim deviation. They tend to deviate over shorter periods, but tend to broadly revert over longer ones. For instance, Since 1989, the Russell 1000 showed an annualized return differential of 0.85% compared to the Russell 2000, whereas the average calendar year return differential was 7.97%. The disparity can also be seen across various categories, including cyclicals versus defensives, value versus growth, emerging versus developed markets and u.s. versus international markets.
One cause for this short-term disparity between groups may be attributed to the different economic stages that favor different asset categories. For example, during periods of accelerating growth, asset categories including value, small-cap and cyclical stocks that exhibit high levels of business leverage and needed access to credit tend to outperform. On the other hand, when we are in a slow down or a contraction, the growth, large-cap and defensive categories outperformed as they provide more diversified businesses and showed lower fixed costs to help them weather economic storms.
If an investor believes that value will outperform over the short- or medium-term, one may overweight or go long value stocks. Mazza explained that most investors are long-only constrained and would only look to go long value, which ignores the other side of the trade or taking the short side of the view.
“Most investors who execute macro views are limited to capturing only the long side, with inferior capital efficiency,” Nestor said.
Nestor argued that investment policy, platform capabilities and/or lack of familiarity with the mechanics prevents short-side access for most investors. Furthermore, without scale, shorting stocks can be expensive, reducing return opportunity even if the directional view is correct.
However, investors can access this long-short view through a targeted ETF strategy. To help investors better access the markets, Direxion has come out with a suite of ETFs to cover well-known investment pairs, and they are built using familiar passive building blocks, including:
- Direxion Russell 1000 Value Over Growth ETF (RWVG)
- Direxion Russell 1000 Growth Over Value ETF (RWGV)
- Direxion Russell Large Over Small Cap ETF (RWLS)
- Direxion Russell Small Over Large Cap ETF (RWSL)
- Direxion MSCI Cyclicals Over Defensives ETF (RWCD)
- Direxion MSCI Defensives Over Cyclicals ETF (RWDC)
- Direxion MSCI Emerging Over Developed Markets ETF (RWED)
- Direxion MSCI Developed Over Emerging Markets ETF (RWDE)
- Direxion FTSE Russell US Over International ETF (RWUI)
- Direxion FTSE Russell International Over US ETF (RWIU)
The underlying indices for each Relative Weight ETF is built with a 150% long component and 50% short component, resulting in a net exposure of 100% of assets. Each ETF and its benchmark index has an oppositely-weighted counterpart. The ETFs provide relative outperformance if the long component outperforms the short component. The strategy implements the long side of the trade, and then also rewards an investor when a macro view is correct.
The ETFs are “products designed to access both sides of common macro views are now available with transparent, capital efficient designs,” Mazza said.
Financial advisors who are interested in learning more about ways to efficiently weight your portfolio can watch the webcast here on demand.