Among the first listings of 2012 were three “volatility response” ETFs from Direxion, which attempt to achieve consistent volatility by controlling equity exposure based on observed volatility. The first actively managed ETF launch of the year employs a Sector Scoring and Allocation Methodology (“SectorSAM)” to select other ETFs in a market neutral approach. Two single-country (Singapore and Hong Kong) small cap ETFs were introduced by iShares, along with a fund covering all developed markets of the world.
1) Direxion S&P 1500 RC Volatility Response Shares (VSPR) listed on 1/11/12 with an expense ratio capped at 0.45% (VSPR overview). The new Risk Control (“RC”) ETF seeks to provide a targeted risk level of 15% (annualized standard deviation) using a quantitative rules-based approach to dynamically reallocate exposure between equities (S&P 1500 Index) and U.S. Treasury Bills (T-Bills).
2) Direxion S&P 500 RC Volatility Response Shares (VSPY) listed on 1/11/12 with an expense ratio capped at 0.45% (VSPY overview). The new ETF seeks to provide a targeted risk level of 15% using a quantitative rules-based approach to dynamically reallocate exposure between equities (S&P 500 Index) and U.S. Treasury Bills (T-Bills).
3) Direxion S&P Latin America 40 RC Volatility Response Shares (VLAT) listed on 1/11/12 with an expense ratio capped at 0.45% (VLAT overview). The new ETF seeks to provide a targeted risk level of 18% using a quantitative rules-based approach to dynamically reallocate exposure between equities (S&P Latin America 40) and U.S. Treasury Bills (T-Bills).
Analysis/Opinion: The “RC” in the name stands for Risk Control. Investors should not confuse the use of “Volatility” in the fund names with other ETFs that track VIX volatility futures. Instead, for these new ETFs, the measured volatility of the related equity index functions as a throttle to vary the equity exposure as a means of producing the targeted volatility levels. I am a proponent of targeted-volatility investing and therefore have keen interest in these new products.
Barclays ETN+ S&P VEQTOR ETN (VQT) is another product that attempts to hedge away the negative impacts of volatility. However, rather than varying the exposure between equities and cash, the underlying index for VQT varies the exposure between equities and VIX futures.
4) AdvisorShares Rockledge SectorSAM ETF (SSAM) listed on 1/12/12 with an expense ratio capped at 1.50% (SSAM overview). It is an actively managed fund-of-funds ETF hoping to “generate stable and consistent annual returns under all market conditions” using a market neutral approach. The portfolio manager, Rockledge Advisors, uses its Sector Scoring and Allocation Methodology (“SectorSAM”) to buy sector ETFs it forecasts to outperform the S&P 500 while selling short an equal dollar amount of sector ETFs it believes will underperform.
The methodology currently focuses on the Sector SPDR ETFs, so only nine sectors are used instead of the ten defined by GICS. As of 1/22/12, the fund was long Materials (XLB) 34.4%, Technology (XLK) 33.9%, and Energy (XLE) 33.3%. It was short Financials (XLF) -21.5%, Consumer Staples (XLP) -18.1%, Health Care (XLV) -17.2%, Consumer Discretionary (XLY) -16.3%, Industrials (XLI) -15.4%, and Utilities (XLU) -5.4%. For the SPDR Select Sector family, the Telecommunications sector is included as part of Technology.
Analysis/Opinion: With indexed ETFs, we can generally expect the performance characteristics to mimic those of the underlying index. With actively managed ETFs, there is no index, so the sponsor must give us some other means by which to set our expectations. For SSAM we are told to expect “stable and consistent annual returns under all market conditions.” However, we are not given any further information regarding the expected annual returns, the standard deviation (stability), or the past performance of the portfolio manager. On the plus side, SSAM does not have much in the way of competition with Guggenheim Sector Rotation (XRO) on ETF Deathwatch.
5) iShares MSCI Hong Kong Small Cap Index Fund (EWHS) listed on 1/12/12 with an expense ratio of 0.59% (EWHS overview). The underlying MSCI Hong Kong Small Cap Index is a free float-adjusted market capitalization index targeting the bottom 14% of the capitalization of Hong Kong securities. The fund has 45 holdings with the largest allocations currently going to VTech Holdings 5.1%, Champion REIT 4.8%, Espirit Holdings 4.8%, AAC Technologies Holdings 4.6%, and Techtronic Industries 4.0%. Sector composition is heavily skewed toward Consumer Discretionary at 44.1%, followed by Financials 18.5%, Industrials 12.2%, and Technology 9.2%.
Analysis/Opinion: Blackrock is taking advantage of what I perceive to be the premature closure of IQ Hong Kong Small Cap ETF (former ticker HKK). Index IQ shuttered its offering in December, just seven months after launch. As I mentioned in my initial HKK review, Hong Kong small cap funds should have no overlap with the holdings of iShares MSCI Hong Kong (EWH) (EWH overview) and offer vastly different sector exposure.
6) iShares MSCI Singapore Small Cap Index Fund (EWSS) listed on 1/12/12 with an expense ratio of 0.59% (EWSS overview). The underlying MSCI Singapore Small Cap Index is a free float-adjusted market capitalization index targeting the bottom 14% of equity market capitalization. The fund has 38 holdings with the largest allocations currently going to Suntec REIT 7.7%, Capitacommercial Trust 7.6%, Venture Corp 4.2%, Biosensors International Group 4.0%, and SATS 4.0%. Current sector composition has Financials at a hefty 48.8%, then Industrials 18.2%, Energy 6.2%, Technology 6.1%, and Consumer Staples 5.6%.
Analysis/Opinion: This is the first ETF to offer access to Singapore small cap stocks. By design, it should have no overlap with the holdings of iShares MSCI Singapore (EWS) (EWS overview) which targets the largest 85% of market capitalization in Singapore. The top two sectors are the same for both funds with the large cap EWS having 42.9% in Financials and 24.9% in Industrials.
7) iShares MSCI World Index Fund (URTH) listed on 1/12/12 with an expense ratio of 0.24% (URTH overview). The underlying MSCI World Index is a free float-adjusted market capitalization index targeting the developed markets of the world. The fund has 1,490 holdings, and the five largest currently happen to all be U.S. companies: Exxon Mobil (XON) 1.8%, Apple (AAPL) 1.7%, International Business Machines (IBM) 1.0%, Microsoft (MSFT) 1.0%, and Chevron (CVX) 0.9%. Country representation has the U.S. at 52.7%, U.K. 9.8%, Japan 9.1%, Canada 5.2%, and France 3.8%. Sector breakdown includes Financials 17.7%, Technology 12.0%, Energy 11.8%, Industrials 11.1%, and Consumer Staples 11.0%.
Analysis/Opinion: The name of the underlying index, and hence the ETF, is potentially misleading because the index does not include stocks from emerging market countries, which currently account for about 15% of the world’s equity market cap. More appropriate names might be MSCI Developed World, MSCI 85% of the World, or MSCI EAFE + US + Canada. By excluding emerging markets, URTH can make the claim that it is the only global ETF providing this level of coverage. If you prefer a “world fund” that includes emerging markets, then consider iShares MSCI ACWI (ACWI) or Vanguard Total World Stock (VT).
Disclosure covering writer, editor, and publisher: Long XLV and AAPL. No positions in any of the companies or ETF sponsors mentioned. No income, revenue, or other compensation (either directly or indirectly) received from, or on behalf of, any of the companies or ETF sponsors mentioned.