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How To Find The Best Style ETFs: Q2’15 In Review

Summary The large number of ETFs hurts investors more than it helps as too many options become paralyzing. Performance of an ETFs holdings are equal to the performance of an ETF. Our coverage of ETFs leverages the diligence we do on each stock by rating ETFs based on the aggregated ratings of their holdings. Finding the best ETFs is an increasingly difficult task in a world with so many to choose from. How can you pick with so many choices available? Don’t Trust ETF Labels There are at least 65 different All Cap Blend ETFs and at least 289 ETFs across twelve styles. Do investors need 20+ choices on average per style? How different can the ETFs be? Those 65 All Cap Blend ETFs are very different. With anywhere from 4 to 3775 holdings, many of these All Cap Blend ETFs have drastically different portfolios, creating drastically different investment implications. The same is true for the ETFs in any other style, as each offers a very different mix of good and bad stocks. Large Cap Value ranks first for stock selection. Small Cap Blend ranks last. Details on the Best & Worst ETFs in each style are here . A Recipe for Paralysis By Analysis We firmly believe ETFs for a given style should not all be that different. We think the large number of All Cap Blend (or any other) style ETFs hurts investors more than it helps because too many options can be paralyzing. It is simply not possible for the majority of investors to properly assess the quality of so many ETFs. Analyzing ETFs, done with the proper diligence, is far more difficult than analyzing stocks because it means analyzing all the stocks within each ETF. As stated above, that can be as many as 3775 stocks, and sometimes even more, for one ETF. Any investor worth his salt recognizes that analyzing the holdings of an ETF is critical to finding the best ETF. Figure 1 shows our top rated ETF for each style. Note there are no ETFs currently under coverage in the All Cap Growth or All Cap Value Styles. Figure 1: The Best ETF in Each Style Sources: New Constructs, LLC and company filings How to Avoid “The Danger Within” Why do you need to know the holdings of ETFs before you buy? You need to be sure you do not buy an ETF that might blow up. Buying an ETF without analyzing its holdings is like buying a stock without analyzing its business and finances. No matter how cheap, if it holds bad stocks, the ETF’s performance will be bad. PERFORMANCE OF ETF’S HOLDINGS = PERFORMANCE OF ETF If Only Investors Could Find Funds Rated by Their Holdings The Arrow QVM Equity Factor ETF (NYSEARCA: QVM ) is the top-rated Large Cap Blend ETF and the overall best ETF of the 289 style ETFs that we cover. The worst ETF in Figure 1 is the SPDR S&P 600 Small Cap Growth ETF (NYSEARCA: SLYG ), which gets our Neutral rating. One would think ETF providers could do better for this style. Disclosure: David Trainer and Max Lee receive no compensation to write about any specific stock, style, or theme. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Best And Worst: Small Cap Growth ETFs, Mutual Funds And Key Holdings

Summary Small Cap Growth style ranks 10th in 2Q15. Based on an aggregation of ratings of 11 ETFs and 498 mutual funds. SLYG is our top rated Small Cap Growth ETF and VSCRX is our top rated Small Cap Growth mutual fund. The Small Cap Growth style ranks 10th out of the 12 fund styles as detailed in our 2Q15 Style Rankings report . It gets our Dangerous rating, which is based on an aggregation of ratings of 11 ETFs and 498 mutual funds in the Small Cap Growth style. Figures 1 and 2 show the five best and worst rated ETFs and mutual funds in the style. Not all Small Cap Growth style ETFs and mutual funds are created the same. The number of holdings varies widely (from 29 to 1214). This variation creates drastically different investment implications and, therefore, ratings. Investors seeking exposure to the Small Cap Growth style should buy one of the Attractive-or-better rated ETFs or mutual funds from Figures 1 and 2. Figure 1: ETFs with the Best & Worst Ratings – Top 5 (click to enlarge) * Best ETFs exclude ETFs with TNAs less than $100 million for inadequate liquidity. PowerShares Fundamental Pure Small Growth Portfolio ETF (NYSEARCA: PXSG ) and Vanguard S&P Small Cap 600 Growth (NYSEARCA: VIOG ) are excluded from Figure 1 because their total net assets are below $100 million and do not meet our liquidity minimums. Figure 2: Mutual Funds with the Best & Worst Ratings – Top 5 (click to enlarge) * Best mutual funds exclude funds with TNAs less than $100 million for inadequate liquidity. Transparent Value Small Cap Fund ( TVSIX , TVSFX ) and Oak Associates River Oak Discovery Fund (MUTF: RIVSX ) are excluded from Figure 2 because their total net assets are below $100 million and do not meet our liquidity minimums. State Street SPDR S&P 600 Small Cap Growth (NYSEARCA: SLYG ) is our top-rated Small Cap Growth ETF and Virtus Small-Cap Core Fund (MUTF: VSCRX ) is our top-rated Small Cap Growth mutual fund. SLYG earns a Neutral rating and VSCRX earns an Attractive rating. One of our favorite stocks held by Small Cap funds is Universal Insurance Holdings (NYSE: UVE ), which earns a Very Attractive rating. Since 2009, Universal Insurance has grown after-tax profit ( NOPAT ) by 21% compounded annually. In addition to its NOPAT growth, the company has increased its return on invested capital ( ROIC ) to 39% in 2014, up from 16% in 2011. Economic earnings have also been positive since 2007. Despite the impressive profit growth achieved by Universal Insurance, the stock remains undervalued. At its current price of $24/share, UVE has a price to economic book value ( PEBV ) ratio of 0.9. This ratio implies the market expects Universal Insurance’s NOPAT to decline by 10% from current levels. However, as noted above, Universal has grown NOPAT by double digits over the past five years. If Universal Insurance Holdings can grow NOPAT by just 8% compounded annually for the next 10 years the stock is worth $38/share today – a 58% upside. Vanguard Small-Cap Growth ETF (NYSEARCA: VBK ) is our worst rated Small Cap Growth ETF and AllianzGI Ultra Micro Cap Fund (MUTF: GUCAX ) is our worst rated Small Cap Growth mutual fund. VBK earns a Dangerous rating and GUCAX earns a Very Dangerous rating. One of our worst rated stocks held by GUCAX is Cardiovascular Systems (NASDAQ: CSII ), which earns our Dangerous rating. NOPAT losses have increased every year since 2012, expanding from -$14 million to over -$33 million in 2014. ROIC has also been negative each year since 2012 and is currently -32%. This equates to Cardiovascular Systems destroying 32 cents of every dollar invested into the business. Despite all of this, CSII’s stock price does not reflect the company’s deteriorating performance. Since 2012, the stock has tripled in price. When considering the fundamental performance of the company over this period, we believe the stock to be overvalued. To justify its current price of $29/share, the company would need to achieve positive pretax margins immediately and grow revenue by 35% compounded annually for the next 18 years . This seems very optimistic given that the company has never grown revenue above 31% year over year, and has remained unprofitable while doing so. Figures 3 and 4 show the rating landscape of all Small Cap Growth ETFs and mutual funds. Figure 3: Separating the Best ETFs From the Worst ETFs (click to enlarge) Figure 4: Separating the Best Mutual Funds From the Worst Funds (click to enlarge) Sources Figures 1-4: New Constructs, LLC and company filings Disclosure: David Trainer and Allen L. Jackson receive no compensation to write about any specific stock, style, style or theme. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. (More…) I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.