Tag Archives: portfolio-strategy

Relative Strength In Rising Rate Environments

By Andy Hyer With wide expectation that the Fed will raise interest rates this month, it is worth considering how a momentum strategy tends to perform in a rising interest rate environment. Invesco PowerShares addressed this topic in their September 2015 paper Harnessing the Power of Factor Investing . According to their findings, momentum was able to generate excess returns in both rising rate and declining rate environments. However, the excess returns were higher in rising rate environments. (click to enlarge) (click to enlarge) Some thoughts on why this pattern may occur: By the time rates rise you are typically well off the market bottom and well out of a recession. On average, stocks are at least fairly valued at that point and there aren’t a ton of bargains to be had that are really cheap for obvious reasons. At that point investors look for growth and that is what momentum is good at picking up. Late cycle also means fewer stocks participating in the rally, which is also good from a momentum perspective. Good momentum stocks usually don’t have to rely on cheap financing (they can generate cash flow organically) so they don’t get crimped like value stocks do when rates rise. While many seem to fear what affect a rising interest rate environment will have on stocks, it is worth remembering that rising rates have tended to be good for a momentum strategy. The relative strength strategy is NOT a guarantee. There may be times where all investments and strategies are unfavorable and depreciate in value.

Activist Attack On Female CEOs

There are 27 companies in the S&P 500 that have a woman CEO – just 1 of those companies have any of the three common takeover defenses in place – including staggered boards, poison pills or unequal voting rights. Nearly one in four of the men-led S&P 500 companies have at least one defense. Now, an even bigger question, is it that activists are targeting women-led companies or is it that activists are really just target underperforming companies? (click to enlarge) With Carl Icahn’s targeting of Xerox (NYSE: XRX ), it’s official, activist investors are out to get female CEOs. Part of this is the fact that they have poor defenses against said activists. There are 27 companies in the S&P 500 that have a woman CEO – just 1 of those companies have any of the three common takeover defenses in place – including staggered boards, poison pills or unequal voting rights. Reynolds American (NYSE: RAI ) is the lone exception, but the takeover defense was in place long before Susan Cameron showed up there. Nearly one in four of the men-led S&P 500 companies have at least one defense. The bigger question, I think, is not having these takeover defenses, is that good or bad corporate governance practice? Xerox’s Ursula Burns is just the latest to get a call from an activist this year. Nelson Peltz’s Trian Fund has been a true woman hater of late, taking on DuPont’s (NYSE: DD ) Ellen Kullman and PepsiCo’s (NYSE: PEP ) Indra Nooyi before that. Peltz has also been putting pressure on Mondelez’s (NASDAQ: MDLZ ) Irene Rosenfeld. Bill Ackman and his Pershing Square ( OTCPK:PSHZF ) have joined in on the Mondelez activist fiasco as well. David Tepper, the recent TerraForm (NASDAQ: TERP ) activist, was part of a group with frontman Harry Wilson that went semi-activist on GM (NYSE: GM ) CEO Mary Barra to force her into a massive buyback. Now, an even bigger question, is it that activists are targeting women-led companies or is it that activists are really just target underperforming companies? Is it safe to assume that activists target women CEOs because they see them as easy targets? And it could be that Wall Street is simply giving women the tough turnaround jobs that prove impossible – Marissa Mayer, Yahoo (NASDAQ: YHOO ), anyone? Just chew on this will you; takeover defenses are said to weaken shareholder rights. Hence, women-led companies score better in the corporate governance department. And there’s the strong correlation of underperforming stocks and weak shareholder rights.

Momentum, Quality And Low Volatility: Continuing The Quest For Smarter Beta

Summary In November I introduced a smart beta portfolio based on MSCI’s indexes for quality, momentum and low volatility. The semi-annual rebalancing of those indexes is complete. I review the previous six-month performance and determine the components of the rebalanced MQLV portfolio. In early November I proposed the idea of using the iShares smart beta ETF portfolios as a filter for building one’s own risk-premia portfolio ( A Quest for the Smartest Beta ). I started from three ETFs, each indexed to a single factor: Low Volatility, Momentum and Quality. iShares MSCI USA Minimum Volatility ETF (NYSEARCA: USMV ) iShares MSCI USA Momentum Factor ETF (NYSEARCA: MTUM ) iShares MSCI USA Quality Factor ETF (NYSEARCA: QUAL ) Taken together, these three ETFs make a solid holding as seen in this table showing results of an equal weighted portfolio of the three ETFs vs. the S&P 500 since the inception of QUAL, the youngest of the three, in August 2013. (click to enlarge) Starting from the premise that each of the ETFs is selecting for a single “smart-beta” factor I wanted to look at the intersection of the three funds. I asked if there were overlapping positions in all three ETFs. I compared their full sets of holdings looking for that overlap. There were 14 funds shared by all three. I reasoned that since each of the 14 passed the MSCI filters for low-volatility, momentum and quality, it could be worth looking at a portfolio comprising all 14, in effect, a portfolio located at the intersection of Quality, Momentum and Low Volatility. June through November Results The 14 stocks from the end of May rebalance are: Arch Capital Group Ltd (NASDAQ: ACGL ) Accenture PLC (NYSE: ACN ) Axis Capital Holdings Ltd (NYSE: AXS ) Chubb Corp (NYSE: CB ) Chipotle Mexican Grill Inc. (NYSE: CMG ) Home Depot Inc. (NYSE: HD ) Eli Lilly (NYSE: LLY ) Nike Inc. Class B (NYSE: NKE ) O’Reilly Automotive Inc. (NASDAQ: ORLY ) Reynolds American Inc. (NYSE: RAI ) Starbucks Corp (NASDAQ: SBUX ) Sigma Aldrich Corp (NASDAQ: SIAL ) Visa Inc. Class A (NYSE: V ) W.R. Berkley Corp (NYSE: WRB ) Each of the ETFs is rebalanced to a revised index twice annually, on the last business days of May and November. So, when I looked at the portfolio, let’s call it MQLV , it had a five-month record from its “inception” on the last business day of May. It had performed well. For the five months from June 1 to Nov 1, it turned in a CAGR of 41.0% vs SPY’s -1.30%. Now that the full cycle is complete we can update performance at the close of the six-month holding period. It performed thusly: (click to enlarge) That is a quite impressive performance record. In a market environment where the S&P 500 index could only muster a 1.74% total return, MQLV chalked up nearly 19%. Sharpe (2.21) and Sortino (7.29) ratios are at rarely seen levels. Pretty good evidence that there may well be something to this idea. Not in any way definitive, of course; it is, after all, a single cycle. But those results are surely saying “Hey, look over here.” Rebalancing for December through May Now that MSCI has rebalanced the indexes, I let’s have a look at the changes. The current overlap for the three funds has moved from 14 to 18 stocks. Eleven remain from the previous list. There are seven new entries, and three have dropped off. The additions are: Costco Wholesale Corp (NASDAQ: COST ) Henry Schein Inc (NASDAQ: HSIC ) Lockheed Martin Corp (NYSE: LMT ) Mcdonalds Corp (NYSE: MCD ) Public Storage REIT (NYSE: PSA ) Travelers Companies Inc (NYSE: TRV ) Ulta Salon Cosmetics & Fragrance I (NASDAQ: ULTA ) And the deletions: Chipotle Mexican Grill Inc. Reynolds American Inc. Sigma Aldrich Corp CMG is no longer included in MTUM’s holdings but remains in USMV and QUAL. RAI was dropped from QUAL; it remains in USMV and MTUM. SIAL was acquired. The sector mix is dominated by Consumer Discretionary and Financials which account for 12 of the 18 positions. (click to enlarge) If we combine these 18 positions into an equal-weighted portfolio, the portfolio metrics are as follows: (click to enlarge) (from investspy.com based on one-year’s data) One-year performance for these 18 is outstanding, having beaten SPY 27.7% to 3.5% for the year. This is, of course, no indication of what the portfolio will do over the next six months between now and the next rebalance, but it does auger well for success. And, let’s not forget, 11 of these holdings were included in the previous iteration which trounced SPY handily. Here is a correlation matrix for the holdings. (click to enlarge) Running the portfolio through Portfolio Visualizer’s four-factor analysis produces the following regressions. Once again, it’s based on one-year’s data. (click to enlarge) As commenters pointed out in discussing the November article, there is little exposure here to size, all but three of the size exposures are negative. Several suggested that I should include the value factor. I argued that value was inherent in some of the selection criteria used by USMV and QUAL, so adding an ETF like the iShares MSCI USA Value Factor ETF (NYSEARCA: VLUE ) would be redundant. That point of view was confirmed to a large extent by including the VLUE and the iShares MSCI USA Size Factor ETF (NYSEARCA: SIZE ) portfolios in the analysis as a follow-up ( Expanding the Smart Beta Filter: Does It Help? ). Now, from the results of this regression analysis of the Fama-French factors, we can see that value exposure is, in fact, fairly high. This result confirms my sense that value was being addressed at least partially, even though it is not a specific factor for any of the three source ETFs. HSIC, LLY, LMT, SBUX are negative for value, but the rest are positive or neutral. Unsurprisingly, momentum exposure–the only factor specifically selected for by a source ETF–is high; only LLY is negative here. Given the extraordinary success of the June through November record I am excited to see how the rebalanced portfolio performs. At 18 positions this is a fairly large commitment for an outright investment, but it could well be worth some serious thought. To me, the concept appears sound and the track record, limited though it may be, is supportive. Is it actionable? I’d like to think so, but the hard evidence, however impressive, is sketchy. So any action taken would be largely based on an appreciation for the conceptual basis of the strategy. I’ll be keeping this updated as we move forward.