ETF Chart of the Day: AlphaDEX Analysis

ETF Trends

Yesterday we saw a giant uptick in trading activity throughout the ETF landscape as a result of several ETF institutional sized model changes hitting the marketplace.

Accelerated turnover was evident in the First Trust AlphaDEX sector ETFs, which we have highlighted from time to time in this piece as potential alternatives to the more popular market capitalization weighted sector ETFs from say SSGA, iShares, or Vanguard for instance.

Relevant products here are FXD (First Trust Consumer Discretionary AlphaDEX, Expense Ratio 0.70%), FXG (First Trust Consumer Staples AlphaDEX, Expense Ratio 0.70%), FXN (First Trust Energy AlphaDEX, Expense Ratio 0.70%), FXO (First Trust Financials AlphaDEX, Expense Ratio 0.70%), FXH (First Trust HealthCare AlphaDEX, Expense Ratio 0.70%), FXR (First Trust Industrials/Producer Durables AlphaDEX, Expense Ratio 0.70%), FXZ (First Trust Materials AlphaDEX, Expense Ratio 0.70%), FXL (First Trust Technology AlphaDEX, Expense Ratio 0.70%), FXU (First Trust Utilities AlphaDEX, Expense Ratio 0.70%), with all of them seeing nice increases in daily volume yesterday amid re-balance activity.

Commonly we will see asset managers employ such ETFs, like they would corresponding U.S. equity sector products from rival sponsors like the aforementioned firms (SSGA, iShares, Vanguard for example) and over and underweight various sectors either on the basis of technical relative strength indicators, or perhaps in some cases even fundamentals.

Speaking of fundamentals, these AlphaDEX products are designed to track and screen such, and some qualify the methodology as quantitatively enhanced, if not quasi-active, in that the underlying indexes refine the Russell 1000 Index universe to hold equity names that display certain fundamental attributes.

According to fund literature, among what is screened for in terms of “growth factors include three, six, and twelve month price appreciation, sales to price and one year sales growth”, as well as “value factors including
book value to price, cash flow to price, and return on assets. In each individual sector index in AlphaDEX, the top 75% stocks in the corresponding Russell 1000 sector index are selected for inclusion, and then further “divided into quintiles based on their rankings and the top ranked quintiles receive a higher weight within the index.

The stocks are equally-weighted within each quintile” and furthermore the indexes are “reconstituted and rebalanced quarterly). 2013 as everyone knows was absent volatility to a large degree, and buying on the dips and
holding in equities was rewarded handsomely for the most part in investing.

However, in the few weeks we have experienced in 2014 already, volatility seems to clearly be back in the short term, and for value conscious/fundamentally sensitive stock pickers, these environments are ripe with opportunity as stock prices often become dislocated versus their true fair values in the short term.

This said, we would expect strategies like the First Trust AlphaDEX sectors to continue to gather momentum in such an environment.

First Trust Consumer Discretionary AlphaDEX Fund

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