Smart beta or factor-based ETFs can help investors achieve enhanced returns.
In a new research note from DWS, ETF Strategists Abby Woodham, Rob Bush and Eric Legunn describe factor investing as an investment strategy that falls at the intersection between passive and active investment management.
“Typically, factor investors seek to gain exposure to various systematic historical drivers of stock performance, called ‘factors’ while retaining the systematic, and often low-cost, features of passive investing,” the research note said. “Common factors include: value, momentum, size, volatility and quality,”
For example, the recently launched Xtrackers Russell 1000 US QARP ETF (NYSEArca: QARP) screens for two widely observed market factors. QARP tries to reflect the performance of the Russell 1000 2Qual/Val 5% Capped Factor Index, which is comprised of large-cap equity names selected based on quality and value factors.
The smart beta ETF tries to identify companies that have strong quality scores relative to their peers while also looking at the value scores of the securities to avoid companies that are potentially over-priced. The quality focus also seeks to avoid so-called value traps, or companies with favorable valuation metrics as they approach bankruptcy, that a pure value exposure would likely fall into.