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Small-Cap Value ETFs: The Right Play Now?

The ominous clouds that have been hanging over the U.S. small-cap ETFs space since the start of the year seem to be dispersing now. The space came under pressure at the beginning of 2016 due to a raft of downbeat U.S. economic readings, weaker greenback and risk-off trade sentiments in the market (owing to global growth worries as well as oil price turmoil) and threw U.S. small-cap ETFs out of investors’ favor. However, things are turning around lately with a volley of improving U.S. economic data, be it labor market, retail and manufacturing. Though the Fed reduced its forecasts for rate hikes in 2016 from four to just two hikes, a few hawkish comments from some Fed officials revived the rate hike talks. As per these officials, the reduced rate hike projection mainly reflected the tantrums thrown by the global financial market, which are now showing signs of cooling off. The two important indicators to measure the timing of another rate hike – labor market and inflation – are both stabilizing. San Francisco Fed president even said that he would promote a hike as early as April. Meanwhile, Q4 2015 U.S. GDP was adjusted higher, from the advanced estimate of 0.7% to 1.0% in the second estimate and then finally to 1.4% in the third reading. This is the reason that small-cap stocks could arguably be better plays in today’s economy. Small caps perform better when the domestic economy is marching higher as these pint-sized stocks generate most of their revenues from the domestic market, turning out to be safer bets than their large and mid-cap cousins. As these are less exposed to foreign markets, these stocks remain less scathed by the stronger greenback. Having said this, we would like to note that uncertainties in the economy still persist. The latest data which showed that the U.S. consumer spending grew slightly in February and overall inflation moved back gave us some reasons to doubt the possibility of an April rate hike. Also, small caps normally experience higher levels of volatility. That is why investors intending to bet on small-cap ETFs may also need some amount of safety or value quotient in their portfolio. This strategy may prove fruitful for investors as the chances of the market going wild are higher next month. Analysts noted that, “during the periods when the Fed was raising interest rates, the value stocks had an average return of 1.2% a month, or 14.4% a year, versus the growth index’s 0.7% a month, or 8.3% a year.” Below we highlight three such ETFs which could be in focus in the coming days. SmallCap Dividend Fund (NYSEARCA: DES ) DES looks to track the performance of the WisdomTree SmallCap Dividend Index. The fund is one of the popular choices in the small-cap value space with about $1.17 billion in AUM. It charges 38 bps in fees. Holding more than 700 stocks in its basket, the product puts about 10% of its total assets in the top 10 holdings, suggesting low concentration risk. Sector wise, this ETF is heavy on financials (24.6%) followed by consumer discretionary (18.3%), industrials (16.5%) and utilities (10.0%). The fund has a yield of 2.94% per annum. The fund carries a Medium risk outlook along with a Zacks ETF Rank #3 (Hold). Vanguard Small-Cap Value ETF (NYSEARCA: VBR ) This fund provides exposure to the value segment of the U.S. small cap market by tracking the CRSP US Small Cap Value Index. It holds a large basket of 856 stocks, which is widely spread across individual securities as none of these has more than 0.6% of assets. In terms of sector exposure, financials dominates the portfolio at 30.4%, followed by industrials (20.2%) and consumer services (12.2%). The ETF is quite popular with AUM of more than $6.01 billion. It charges 9 bps in fees per year from investors. The fund has a dividend yield of 2.30% (as of March 28, 2016). VBR has a Zacks ETF Rank #3 with a Medium risk outlook. S&P Small Cap 600 Value Index Fund (NYSEARCA: IJS ) The fund looks to provide exposure to U.S. small-cap value stocks by tracking the S&P SmallCap 600 Value Index. The $3.23-billion fund holds a total of 453 small cap stocks. The fund appears diversified as no stock accounts for more than 1.07% of the basket. Among the different sectors, Financials, Industrials, Consumer Discretionary and IT occupy the top four positions with 21.7%, 18.9%, 16.4% and 16% of weight, respectively. The fund charges a premium of 25 basis points annually. This Zacks Rank #3 ETF yields 1.52% annually (as of March 28, 2016). Original Post

3 Mutual Funds To Buy As Consumer Spending Boost GDP

According to the “third estimate” of the U.S. Department of Commerce, the economy expanded at a rate of 1.4% in the fourth quarter of 2015 compared with the earlier estimate of a 1% rise. Moreover, the growth rate was above the consensus estimate of 1% gain. For the full year, GDP rose at an annual rate of 2.4%, in line with the 2014 growth rate. Thanks to consumer spending, which constitutes roughly 75% of the U.S. economy, GDP grew at a moderate pace in the fourth quarter despite weaknesses in the other major components of the economy. Steady growth in consumer spending is likely to have a positive impact on the retail sector, which attracts a major portion of consumer expenditure. Given this scenario, mutual funds having significant exposure to this sector may provide an excellent investment opportunity to seeking returns from this positive trend. Consumer Spending Boosting Economy According to the GDP report, personal consumption expenditure grew at a pace of 2.4% in the fourth quarter, preceded by a 3% rise in the third. In 2015, consumer spending rose 3.1% – the highest rate of increase since 2005. While spending on goods rose at a rate of 3.7% in 2015, the same on services increased 2.8% during the same time frame. Personal consumption expenditure contributed nearly 1.7% and 2.1% to GDP during the fourth quarter and last year, respectively. Consistent improvement in labor market conditions remained one of the key drivers of consumer spending. According to the latest data, the economy got a boost from 242,000 job additions in February, which exceeded January’s revised figure of 172,000 by a wide margin. Unemployment remained in line with January’s rate of 4.9%. Meanwhile, the GDP report showed that disposable personal income increased 2.3% in the fourth quarter, preceded by a 3.2% increase in the previous quarter. Also, it rose at a rate of 3.4% last year – the highest since 2006. The low inflation rate also gave a significant boost to consumer spending. According to the report, the personal consumption expenditure index (PCE) rose at a six-year low pace of 0.3% in 2015. Excluding food and energy prices, the index rose 1.3% – the lowest since 2011. Lingering Concerns A massive slump in business profits emerged as one of the main concerns in the fourth quarter. After-tax profits plunged 8.4% during the quarter, witnessing the largest decline since the first quarter of 2014. This was preceded by third quarter’s decline of 1.7%. After-tax profits slumped 5.1% last year, marking the biggest drop in the last seven years. Profits from current production plunged $159.6 billion last quarter, followed by a $33 billion decline in the third. Moreover, business investment declined 2.1% during the fourth quarter, in contrast to a 2.6% rise in the previous quarter. It subtracted nearly 0.3 percentage points from GDP figure. It is speculated that rising wages and an improving labor market will have a negative impact on the profit margin. Separately, exports declined 2.1% in the fourth quarter compared with a 0.7% rise in the third. Imports declined 0.7% in the last quarter. This is why net exports had a negative impact of more than 0.1% on the GDP number. Meanwhile, businesses witnessed a stock pile of $78.3 billion last quarter followed by $81.7 billion accumulated in the third quarter. This affected the GDP rate by more than 0.2 percentage points. 3 Mutual Funds to Buy Despite these concerns, the consumer-driven U.S. economy managed to register a moderate rate of growth on the back of positive factors including favorable labor market conditions, a low inflation rate and the low interest rate environment. The Fed recently reduced its forecast for the number of rate hikes this year from four to two. In this favorable environment, the retail sector is expected to benefit from steady growth in consumer spending as it attracts a major portion of the total spending. Against this backdrop, we highlight three retail focused mutual funds that carry either a Zacks Mutual Fund Rank #1 (Strong Buy) or #2 (Buy). We expect these funds to outperform their peers in the future. Remember, the goal of the Zacks Mutual Fund Rank is to guide investors to identify potential winners and losers. Unlike most of the fund-rating systems, the Zacks Mutual Fund Rank is not just focused on past performance, but also on the likely future success of the fund. These funds have encouraging one-month and three-year annualized returns. The minimum initial investment is within $5000. Also, these funds have a low expense ratio. Fidelity Select Consumer Discretionary Portfolio (MUTF: FSCPX ) seeks growth of capital. This fund invests a large portion of its assets in securities of companies involved in the manufacture and distribution of consumer discretionary products and services. Currently, FSCPX carries a Zacks Mutual Fund Rank #1. The product has one-month and three-year annualized returns of 3.9% and 13.5%, respectively. Annual expense ratio of 0.79% is lower than the category average of 1.41%. Putnam Global Consumer A (MUTF: PGCOX ) invests a large portion of its assets in securities of companies involved in the manufacture and distribution of consumer discretionary products and services. Currently, PGCOX carries a Zacks Mutual Fund Rank #1. The product has one-month and three-year annualized returns of 5.4% and 10.7%, respectively. Annual expense ratio of 1.26% is lower than the category average of 1.43%. Fidelity Select Retailing (MUTF: FSRPX ) seeks capital growth. FSRPX invests a major portion of its assets in securities of firms involved in merchandising finished goods and services to consumers. Currently, FSRPX carries a Zacks Mutual Fund Rank #2. The product has one-month and three-year annualized returns of 3.8% and 20.3%, respectively. Annual expense ratio of 0.81% is lower than the category average of 1.41%. About Zacks Mutual Fund Rank By applying the Zacks Rank to mutual funds, investors can find funds that not only outpaced the market in the past but are also expected to outperform going forward. Pick the best mutual funds with the help of Zacks Rank. Original Post

Floating Rate ETFs In Flux

This article originally appeared in the April issue of WealthManagement Magazine and online at Floating Rate ETFs in Flux . With fed rate hikes likely coming at a slower pace, investors flee some floating-rate notes. Nearly a year ago, as part of our survey of alternative income funds (” Alternative Alternative Income “), we picked through a number of floating-rate note (FRN) portfolios to find the potential best-of-class performance should interest rates rise. Well, since then rates have risen by 34 basis points in the three-month Libor and 26 basis points in the three-month T-bill yield. Curiosity compels us to revisit the floater funds to see how the asset class has fared. Not all these portfolios are alike, so one shouldn’t expect uniform results. The vast majority of the $9.8 billion held by exchange traded fund (ETF) versions are invested in corporate securities. And, among these, there’s further differentiation by credit ratings. Most investors are attracted to funds holding high-yield securities, though significant assets are committed to investment-grade paper. The junk/quality split is 54/40 with the remaining 6 percent in municipal and Treasury notes as well as a fund devoted to variable-rate preferred stock and hybrid securities. Money Flows Overall money has flowed out of the 12 ETFs plying the floater trade over the last 12 months. Net redemptions of $417 million reduced the category’s asset base by 4 percent. This wasn’t a wholesale dumping; it was more tactical. Some segments lost assets, some gained. And that’s a story in itself. Junk note funds lost nearly 16 percent, or $986 million, while ETFs invested in higher-grade corporate notes saw inflows of nearly 5 percent, or $183 million. At the same time, there was a $5 million, or 45 percent, boost in the newer (and smaller) Treasury segment. The single fund devoted to municipal notes bled assets, losing $27 million, or 28 percent, of its base while the other singleton, the variable preferred stock ETF, tripled in size with $408 million in net creations. Two trends are at work here. Some of the high-yield assets migrated to safer havens, namely bank-grade and Treasury paper. Mainly, that’s been an escape from duration risk. Money’s also being drawn to the equity side in response to more encouraging economic data. The second trend is a mercenary search for yield. Consider the inflow to the preferred stock ETF. Dividend yields for variable preferreds indexed in the Wells Fargo Hybrid and Preferred Securities Floating and Variable Rate Index exceed 5 percent, significantly higher than the rates earned by junk notes. Investors believe that stocks, common or preferred, are okay to buy again. Especially if they produce lip-smackin’ income. The insulation from duration risk is a boon. So, let’s take a closer look at the cash thrown off by these ETFs, along with their return characteristics. High-Yield Corporate Floaters The 600-lb. gorilla among high-yield floater ETFs is the $3.7 billion PowerShares Senior Loan Portfolio ETF (NYSEARCA: BKLN ) , which owns more than 70 percent of the segment. As BKLN goes, so goes the segment. Buoyed by a market-weighted 4.22 percent dividend yield, high-yield ETFs collectively earned a total return of -2.54 percent over the past 12 months. The segment’s discernible duration is 2.27 percent, making it the most rate-sensitive in the asset class. When benchmarked against the i Shares Core Total U.S. Bond Market ETF (NYSEARCA: AGG ) , a broad market bond index tracker with a duration of 5.53 percent, you can see the bargain made by FRN investors: Aiming for higher dividends and less rate sensitivity, they settled for lower overall returns. Despite its middling dividend yield, assets have flowed to the First Trust Senior Loan ETF (NASDAQ: FTSL ) in the past year. FTSL is actively managed with a mandate that allows the portfolio to be invested in non-U.S. paper and equities. Net creations have boosted the fund’s asset base by 87 percent. Investment-Grade Corporate Floaters Dividends are a lot lower in the bank-grade segment. With a collective “A” credit rating, the segment’s market-weighted yield is just 0.58 percent. Modified duration, at 0.12 percent, is very low as well. Like high-yield corporates, total returns have been negative, though at -0.40 percent, less so. The $3.5 billion iShares Floating Rate Bond ETF (NYSEARCA: FLOT ) sets the segment’s pace, though the fund to beat has been the SPDR Barclays Investment Grade Floating Rate ETF (NYSEARCA: FLRN ) . FLRN is the only corporate floater that produced a positive total return over the past year. Treasury Floaters Floating-rate Treasury paper, with its low yield and virtually nonexistent duration is really a cash substitute. Investors, wary of potential Fed rate hikes, have goosed up the segment’s small asset base in the last 12 months. It’s the only segment, too, that’s produced a positive, albeit small, total return. Nearly all the segment’s assets are held in the iShares Treasury Floating Rate Bond ETF ( TFLO) . Other Floaters There are a couple of ETFs at the corners of the floating-rate market. The PowerShares Variable Rate Preferred Portfolio ETF (NYSEARCA: VRP ) , claiming the highest dividend yield in the class, earns the variable moniker in more than one way. It’s been one of the category’s more volatile issues, and ended up losing money overall in the past 12 months. A stablemate, the PowerShares VRDO Tax-Free Weekly Portfolio ETF (NYSEARCA: PVI ) , owns municipal bonds, rated AA- on average, that can be redeemed weekly. Duration is negligible, which make the fund a cash substitute. With no dividend stream, however, the total return pretty much reflects its holding costs. No wonder the fund lost assets. An Overview The side-by-side comparison in Chart 1 shows how the category’s biggest funds behaved over the past 12 months. Three ETFs-FLOT, PVI and TFLO-varied little from their starting values, but BKLN and VRP wobbled significantly. Such volatility speaks to inherent risk. Floating-rate funds limit duration risk so they’re obliged to take on more credit risk to generate attractive returns. We seem to have reached a risk inflection point, though. By and large, investors are fleeing the risk in the high-yield corporate market. That exodus, in great part, reflects investor perceptions that Fed rate hikes may be coming at a slower pace than originally expected. The advantage of holding variable-rate securities, then, has diminished, making other assets more appealing.