The $1.6 trillion ETF industry is presently dominated by plain
vanilla market capitalization weighted products that simply
replicate the market or a particular segment of the market. With
their low-cost and transparent methodologies, they are very
popular with investors. (Read:
High Quality ETFs for long-term
However many investors now demand more than just market benchmark
returns from their ETF investments and look for products that
have the potential to beat the market. Some of these products
sponsors call them "Smart Beta" products though terms like
"Advanced or Alternative Beta" appear to be more acceptable in
With the demand for these products surging, many sponsors are now
coming with new products with these "Advanced" strategies. Per
, these ETFs have attracted inflows of $46 billion so far this
year, resulting in a 20% increase in AUM. With total assets of
$228 billion, this segment of the market now accounts for about
14% of all US listed ETF assets. (Read:
3 Niche ETFs Crushing the Market
What is Smart Beta?
These indexes attempt to select stocks that have better chances
of risk-return performance, based on certain fundamental
characteristics or a combination of such characteristics. (Read:
Beat the market with Smart Beta ETFs
While this space offers a number of choices to investors,
including simplest equal-weighting, fundamental weighting and
volatility/momentum based weighting methodologies, not all these
strategies have been able to deliver superior results.
Dynamic ETFs in Focus
The goal of "Dynamic" Indexes is to provide superior
risk-adjusted returns by choosing stocks based on investment
merit. The Intellidex universe includes 2,000 U.S. stocks, which
are evaluated using a proprietary investment methodology
based on 25 factors that measure company fundamentals, stock
valuation, timeliness and risk.
There is a family of ETFs linked to the Intellidex index strategy
across a wide range of categories, including board-market,
sectors and industries. Each of these products tracks a
corresponding Intellidex Index, delivering access to enhanced
index investing. While each incorporates quantitative screening
process, different categories have different changes and tweaks
to the overall process, according to the sponsor Invesco
Like other "Advanced Beta" ETFs, all Dynamic Index ETFs have not
been successful. Below we have highlighted three options-one each
from broad-market, sector and industry specific space--that have
delivered better results than their market-cap weighted
PowerShares Dynamic Market Portfolio (
Launched in May 2003, this ETF is one of the more popular funds
in this category, with over $155 million in AUM. The product
seeks to track the Dynamic Market Intellidex Index. It charges an
expense ratio of 60 basis points.
It currently holds100 stocks with a focus on large caps. Hess
Corp, Valoero Energy, Archer-Daniels and Costco are the top
holdings. However the fund is well-diversified with the top
holding accounting for just 3.9% of the asset base.
The product has a tilt towards technology (18%), while consumer
discretionary, energy, financials, health care, and industrials
also receive double-digit allocations.
The ETF has returned 39% in the last one year compared with 27%
for the S&P 500 ETF.
PowerShares Dynamic Industrials Sector Portfolio
Launched in October 2006, PRN seeks to match the price and yield
of the Dynamic Industrials Sector Intellidex Index.
The product has an asset base of $91million, invested in of 60
industrial companies. It provides exposure to almost all segments
of the industrial sector with double-digit allocation to
Aerospace & Defense, Machinery, Airlines and Commercial
Services & Supplies.
Among individual holdings, Delta Airlines, Southwest Airlines and
Boeing occupy the top three spots.
PRN is a bit expensive with an expense ratio of 65 basis points
annually but it has been beating the most popular industrial ETF.
It has returned 51% in the last one year compared with 36% for
the Industrial SPDR ETF.
PRN is a Zacks Rank # 2 (Buy) ETF.
PowerShares Dynamic Leisure & Entertainment ETF (
Launched in June 2005, PEJ the tracks Dynamic Leisure and
Entertainment Intellidex Index.
The index is comprised of 30 US leisure and entertainment
companies selected on the basis of a variety of investment merit
Top holdings include Chipotle, Time Warner, Liberty Media,
Priceline and Starbucks. Restaurants (43%), Broadcasting (15%),
and Movies & Entertainment (13%) are among the top
The fund charges slightly higher fees of 63 basis points per year
but it has been outperforming its peers. It has returned 50% in
the last one year compared with 39% for the Consumer
Discretionary SPDR fund.
PEJ is a Zacks rank #1 (Strong Buy) ETF.
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PWRSH-DYN LE&EN (PEJ): ETF Research
PWRSH-DYN INDU (PRN): ETF Research Reports
POWERSH-DYN MKT (PWC): ETF Research Reports
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