David Fabian: Looked at a chart of stocks lately? It’s difficult to conjure up any sense of enthusiasm in the price action over the last year. We have endured two pernicious drops that have been snatched from the jaws of defeat at seemingly the last moment. Only to experience a concomitant rip roaring rally that fizzles near the highs. This type of whipsaw action is where nervous investors get shaken out near the lows and stressfully forced back in at the worst possible time.
Fact: The SPDR S&P 500 ETF (SPY) is sitting on a gain of +0.21% over the last twelve months. That’s with dividends included.
The tough part is that it’s becoming increasingly difficult for stock investors to find creative ways to eke out gains in this environment. Sectors have been a hit or miss proposition to say the least. You could always buy a little gold, but who knows what that will do over the next year.
If you’re like me, you want to keep your stock exposure broad, but with a specific theme such as low volatility, high quality, or even dividend-focused. Fortunately, those themes have shown a trend of outperformance recently that may represent an opportunity for your ETF watch list.
iShares Core High Dividend ETF (HDV)
I have written extensively about HDV over the course of my career and it continues to stand out among its peers. This ETF owns 75 large and mid-cap stocks of companies that have paid consistently high dividends and are also screened for financial health. Top holdings include well-known names such as Exxon Mobil (XOM) and Verizon Communications (VZ).
HDV has $5 billion in assets under management, charges a miniscule expense ratio of 0.12%, and has a 30-day SEC yield of 3.42%. Dividends are paid quarterly to shareholders.
A look at the comparative chart shows just how far this fund has surpassed the market benchmark over the last year. This divergence really took off near the start of 2016 as we started to see a strong bid under consumer staples and energy stocks. These two sectors makeup nearly 40% of the asset allocation within HDV.
The multi-sector index construction and low cost of this ETF means it couldconceivably fit well as a core stock allocation for those who are focused on income and capital appreciation.
PowerShares S&P 500 Quality Portfolio (SPHQ)
Finding high quality stocks in the market isn’t always easy, but PowerShares takes the stress of that away with SPHQ. The index methodology behind this fund identifies 100 large-cap stocks within the S&P 500 Index with the highest quality scores. This ranking system is determined based on strong balance sheets and stable earnings growth according to several fundamental measures.
The portfolio is currently weighted heavily towards consumer discretionary, industrial, and healthcare stocks. Top holdings include: Johnson & Johnson (JNJ), Home Depot (HD), and Proctor & Gamble (PG).
It’s clear on the chart that this fund has noticeably outpaced the S&P 500 Index over the last year despite having a markedly different underlying basket of stocks than a dividend fund such as HDV.
SPHQ charges a reasonable expense ratio of 0.29% and has $900 million in total assets. This type of ETF could potentially work well as either a core holding or as atactical position to supplement other more diversified indexes within your portfolio.
iShares MSCI USA Minimum Volatility ETF (USMV)
Low volatility stocks are another factor-based investment strategy that has become something of a hot button topic lately. Investment strategists have been unnerved by the strong outperformance of these stocks and the lofty heights of their current valuations. The argument is that these companies are potentially fully valued and may not offer the same type of upside growth moving forward.
I have been a big proponent of USMV for years now and have argued that investors who use low volatility indexes should expect lower growth at the outset. The premise behind this methodology is to select primarily defensive-minded companies that have shown a historical trend of lower price fluctuations than their peers. The end result is a basket of 167 stocks and a very low expense ratio of just 0.15%.
These funds aren’t designed to beat the stock market; they are simply designed to have a lower beta (less drawdown) than a broad index such as the S&P 500. To-date, this has been a solid vehicle for conservative investors who need an allocation to stocks and would otherwise find themselves nervously selling a more volatile index at inopportune times.
The Bottom Line On Factor-Based ETFs
Whenever you are investing with a factor-based approach such as momentum, volatility, size, fundamentals, or dividends, you have to be prepared for cycles of strength and weakness versus a broad benchmark. The funds I listed above have proven to be great indexes to own over the last year, and even much longer in most instances.