The growth and momentum factors are leaders among smart beta strategies this year, a positive sign for exchange traded funds, such as the Powershares DWA Momentum Portfolio (NASDAQ: PDP). PDP is up 14.3% year-to-date, an advantage of more than 300 basis points over the S&P 500.
PDP tracks the Dorsey Wright Technical Leaders Index, which usually includes 100 Nasdaq-listed companies.
“The Index is constructed pursuant to Dorsey, Wright & Associates, LLC’s proprietary methodology, which takes into account, among other factors, the performance of each of the approximately 1,000 largest companies in the eligible universe as compared to a benchmark index, and the relative performance of industry sectors and sub-sectors,” according to PowerShares.
“All securities in each Index universe are further ranked using a proprietary relative strength (momentum) measure. Each security’s score is based on intermediate and long-term price movements relative to a representative market benchmark,” according to a Seeking Alpha analysis of momentum ETFs.
Since momentum strategies can overweight riskier stocks, the ETF could could underperform during another correction. Since defensive stocks typically do better during volatile conditions, the momentum strategy could load up on conservative picks and miss out on the initial recovery in riskier assets.
“Momentum ETFs ought to be wisely used by investors contingent on different regimes. Under some extreme circumstances such as the financial crisis in 2008, all stocks clustered and plunged, betting on any momentum strategies is equivalent to an investment suicide. On the other hand, in this nascent Donald Trump era, the market has displayed somewhat up-trending momentum. NASDAQ, SP500 are hitting record highs, and more investors are pouring in money to ride the wave,” according to Seeking Alpha.
PDP currently allocates almost 27% of its weight to technology stocks. The industrial and consumer discretionary sectors combine for over 34% of the ETF’s weight. Not surprisingly, PDP’s weights to defensive sectors, such as consumer staples and utilities, are low. With the energy sector being the worst-performing group in the S&P 500 this year and displaying no positive momentum traits, that sector commands only token representation in PDP to the tune of one stock.
Fortunately for investors, PDP has been consistently underweight energy during the sector’s struggles in recent years. Year-to-date, investors have pulled $395.1 million from PDP, according to issuer data.
For more on Smart Beta ETFs, visit the Smart Beta Channel home page.
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.