Channeling Your Inner Buffett With ETFs

ETF Database

Though value investing never truly went out of style, it has certainly become an increasingly popular strategy over the past few years. Interest in dividend-paying stocks skyrocketed in 2011 as investors sought both safety and yield. Given the lingering risks to a still-fragile global economic, as well as the likelihood of low rates in many markets through at least next year, interest in this approach figures to remain elevated for the foreseeable future [see also Why Warren Buffett Hates Gold].

The ETF lineup includes dozens of products linked to indexes implementing value screens, including those targeting small, medium and large stocks in the U.S. as well as international markets. In addition, there are a number of options that go beyond traditional metrics used to identify value stocks using unique approaches to pursue investing strategies that seem to be at least partially inspired by the Oracle of Omaha. Below, we profile a handful of ETFs that seem to be consistent with the tenets of investing invented and promoted by the legendary Warren Buffett [for more ETF insights, sign up for the free ETFdb newsletter]:  

Contrarian ETFs

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Warren Buffett and President Obama

Contrarian investing is nothing new; investors have been “going against the crowd” for decades, snapping up stocks that have fallen out of favor at bargain prices. This investment thesis is consistent with the approach Buffett has implemented throughout his career, and is perhaps best reflected in his well known mantra to “be greedy when others are fearful” [see also Greedy When Others Are Fearful ETFdb Portfolio Now Available].

Russell’s ETF lineup includes two products that deliver rules-based exposure to contrarian investing strategies: the Russell Small Cap Contrarian ETF (SCTR) and Russell Contrarian ETF (CNTR). The approach behind these ETFs is similar; the underlying indexes include stocks that exhibit low price-to-sales multiples relative to their historical average. Moreover, these indexes exclude companies that have outperformed market and sector peers over the past three to five years, thereby focusing in on companies that have lagged behind recently.

Like all of the factor ETFs from Russell, these contrarian products give investors low cost, low maintenance access to strategies that they would otherwise need a professional money manager to deliver.

Morningstar Wide Moat Focus ETN (WMW)

This ETN taps into another investing concept that Buffett coined and helped to popularize: wide economic moats. This term generally refers to a competitive advantage maintained by a company; the more significant and sustainable the competitive advantage, the wider the moat. So there is obvious appeal in identifying companies that maintain “wide moats,” since their business models should be positioned to thrive over the long term. Buffett has sought out wide moats throughout his illustrious career, and continues to utilize this approach today [see also Quant-Based ETFs In Focus].

According to Morningstar, there are several potential sources of wide moats, including high switching costs for moving to a competitor, cost advantages over competing firms, superior intangible assets, and the so-called “network effect” whereby a firm’s services become more valuable as the user base expands.

WMW, an exchange-traded note issued by Deutsche Bank, offers exposure to an index consisting of 20 companies with the highest ratios of fair value (as determined by Morningstar) to their stock price, and that have a wide moat (i.e., a sustainable competitive advantage).

Dogs of The Dow ETN (DOD)

This ETN is linked to one of the more basic indexes covered by the ETP universe; the underlying benchmark consists of the ten components of the Dow Jones Industrial Average that exhibit the highest dividend yield at the end of each year. Known as the “dogs” of the Dow, these stocks have a pretty compelling historical track record.

Buffett was never one to buy a stock simply because it maintained a high dividend yield or had been struggling lately; his approach to investing also involved detailed analysis of the underlying business fundamentals of any stock he was considering. So the Dogs of the Dow approach may not fully jive with the Buffett approach to investing, though it does offer a way to tap into blue chip companies that offer attractive distribution yields [see also Inside The Simple, Surprisingly Effective Dividend ETF].

Russell Low P/E (LWPE)

Another of the “factor” ETFs offered by Russell, LWPE implements another approach to stock picking that has been around for decades but that has only recently been packaged in the ETF wrapper. LWPE is linked to an index that starts with the Russell 1000 Value Index, and further cuts down the portfolio using various screens. Specifically, LWPE includes companies with a price-to-forecasted earnings, price-to-trailing earnings, and/or price-to-trailing cash flow multiples below their five year historical averages [see also 2011: A Year Of ETF Firsts].

The result is a portfolio of about 400 companies with an overall P/E ratio of about 12.5x and a forward P/E of just under 11x. The price-to-cash flow metric for LWPE comes in at about 7.8x, and the dividend yield for this ETF is about 2.2%. The individual components include many well-known, blue chip stocks; the largest allocations are GE (3.2%), Chevron (3.1%), and Pfizer (2.7%). LWPE currently has a bit of a tilt towards financials (28% of portfolio) while being relatively underweight in technology (6%) and materials (4%).

Disclosure: No positions at time of writing.

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