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Understanding Smart Beta ETFs' Indexes

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·9 min read
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Smart beta ETFs make up a small, but growing, slice of the top three index providers’ business, based on ETF assets.

At First Bridge Data, a CFRA company, index-based ETFs are split between traditional beta funds that track a market-cap-weighted index; smart beta funds that track an alternatively weighted index; and leveraged/inverse ETFs that either amplify or seek to benefit from the decline in the returns of market-cap-weighted indexes.

Smart beta funds have gained in popularity in recent years, as investors have sought to improve on the reward or reduce the risk of traditional beta funds without employing leverage. Some smart beta types include dividend, low volatility, value and multifactor; the latter combines multiple metrics in one index-based approach.

Yet smart beta remains a modest percentage of ETF assets tied to indexes from the top three index providers as demand for lower-cost traditional beta funds has been even stronger.

 

S&P Dow Jones Indices Smart Beta Share (8% of index-based assets)

Market Share
Market Share

Source: First Bridge Data, a CFRA company; March 31, 2020

 

S&P Dow Jones Indices had the most ETF assets tied to its indexes, $1.2 trillion as of the end of the first quarter, aided by the dominance of the SPDR S&P 500 ETF Trust (SPY), the iShares Core S&P 500 ETF (IVV) and the Vanguard S&P 500 ETF (VOO)—but only 8% of index-tracking assets were from smart beta. In contrast, 20% of MSCI’s $483 billion and 12% of FTSE Russell’s $464 billion were in smart beta based funds.

MSCI and FTSE Russell have a strong international equity index presence driven by the iShares Core MSCI Emerging Markets ETF (IEMG), the iShares MSCI EAFE ETF (EFA), the Vanguard FTSE Developed Markets ETF (VEA) and the Vanguard FTSE Emerging Markets ETF (VWO).

Yet these funds are smaller than their S&P 500 Index-based counterparts, which helps drive higher the percentage of smart-beta-based index assets for MSCI and FTSE Russell. All three firms have significantly limited exposure to leverage/inverse ETFs.

 

MSCI Smart Beta Share (20% of index-based assets)

Market Share
Market Share

Source: First Bridge Data, a CFRA company; March 31, 2020

 

 

FTSE Russell Smart Beta Share (12% of index-based assets)

Market Share
Market Share

Source: First Bridge Data, a CFRA company. March 31, 2020

 

Know Your Index Provider
While some index-based smart beta ETFs like the iShares Edge MSCI U.S.A. Momentum Factor ETF (MTUM) make it clear what index is being tracked, this is not the case with all funds.

For example, the Schwab U.S. Dividend Equity ETF (SCHD) replicates a Dow Jones dividend growth index that is part of the S&P Dow Jones family. The Vanguard High Dividend Yield ETF (VYM) is another instance where the FTSE Russell index takes a back seat in the fund name. Neither Schwab nor Vanguard makes the decisions on what companies to include inside the ETF.

While MSCI has licensed its smart beta indexes for ETFs managed by DWS, Nuveen and State Street Global Advisors, the firm’s relationship with iShares is unmatched. The 10 largest smart beta ETFs tracking MSCI benchmarks are all offered by iShares, and totaled $82 billion as of March.

Four of these ETFs are classified as low volatility funds, which seek to own the less risky stocks with a broader benchmark in hopes of limiting the impact of market gyrations. The iShares Edge MSCI Min Vol U.S.A. ETF (USMV) was the largest, with $31 billion in assets at quarter end, but the iShares Edge MSCI Min Vol EAFE ETF (EFAV), the iShares Edge MSCI Min Vol Global ETF (ACWV) and the iShares Edge MSCI Emerging Markets ETF (EEMV) were also among the top 10, providing unique regional or global exposure with the same risk-reducing approach.

 

Largest Smart-Beta ETFs Tied To MSCI Index (Assets In $M)

Name

Ticker

Family

Smart Beta Type

Assets ($M)

iShares Edge MSCI Min Vol USA

USMV

iShares

Low Volatility

30,734

iShares Edge MSCI USA Quality Factor 

QUAL

iShares

Quality

15,237

iShares Edge MSCI Min Vol EAFE

EFAV

iShares

Low Volatility

10,425

iShares Edge MSCI USA Momentum

MTUM

iShares

Momentum

8,095

iShares Edge MSCI Min Vol Global

ACWV

iShares

Low Volatility

5,003

iShares Edge MSCI Min Vol Emerging Markets

EEMV

iShares s

Low Volatility

3,969

iShares ESG MSCI USA

ESGU

iShares

Thematic

3,509

iShares ESG MSCI EM

ESGE

iShares

Thematic

1,894

iShares ESG MSCI USA Leaders 

SUSL

iShares

Thematic

1,583

iShares ESG MSCI EAFE

ESGD

iShares

Thematic

1,556

Source: First BrSource: First Bridge Data, a CFRA company; March 31, 2020

 

An additional four top 10 funds provided regional or global exposure to stocks that met MSCI’s environmental, social and governance criteria, led by the $3.5 billion iShares ESG MSCI U.S.A. ETF (ESGU) and the $1.9 billion iShares ESG MSCI EM ETF (ESGE).

S&P Dow Jones Indices has a broader array of large partners than MSCI. Five different asset managers were represented in the top 10 ETFs that tracked an S&P Dow Jones Index, and all offered a dividend strategy.

The SPDR S&P Dividend ETF (SDY) was the largest, with $14 billion in assets, focused on historical dividend growth. That was followed by the iShares Select Dividend ETF (DVY), which has a greater dependence on the dividend yield.

The Schwab U.S. Dividend ETF (SCHD) and the ProShares S&P 500 Dividend Aristocrats ETF (NOBL) are two additional large funds focused solely on equity income, while the Invesco S&P 500 High Dividend Low Volatility ETF (SPHD) combines dividends and low volatility metrics—providing the potential for even more risk mitigation.

 

Largest Smart-Beta ETFs Tied To S&P Dow Jones Index (Assets In $M)

Name

Ticker

Family

Smart Beta Type

Assets ($M)

SPDR S&P Dividend

SDY

State Street

Dividend

14,192

iShares Select Dividend 

DVY

iShares

Dividend

12,521

Invesco S&P 500 Equal Weight

RSP

Invesco

Equal Weighted

10,441

Schwab US Dividend

SCHD

Schwab

Dividend

9,654

Invesco S&P 500 Low Volatility

SPLV

Invesco

Low Volatility

9,044

ProShares S&P 500 Dividend Aristocrats

NOBL

ProShares

Dividend

5,074

iShares International Select Dividend

IDV

iShares

Dividend

3,299

iShares Global Infrastructure

IGF

iShares

Thematic

2,742

Invesco S&P MidCap Low Volatility  

XMLV

Invesco

Low Volatility

2,505

Invesco S&P 500 High Dividend Low Volatility

SPHD

Invesco

Multi Factor

2,440

Source: First Bridge Data, a CFRA company; March 31, 2020

 

 

As at MSCI, there has been demand for S&P Dow Jones-based low volatility ETFs. The Invesco S&P 500 Low Volatility ETF (SPLV) is a large cap peer of USMV, while the Invesco S&P MidCap Low Volatility ETF (XMLV) offers exposure to more midsize companies like MDU Resources.

Similar Names Can Have Different Holdings
While the minimum volatility ETFs USMV and SPLV both generate less volatility than the S&P 500 Index, they are constructed differently. USMV has sector constraints and typically has higher exposure to cyclical sectors like information technology (18% of recent assets) than defensive sectors like utilities (9%).

Meanwhile, it is common for SPLV to have the inverse, with exposure to utilities (29%) recently much higher than information technology (6%). Year to date through April 17, USMV’s 7.8% decline was narrower than SPLV’s 11%, highlighting that these are not clones.

When it comes to multifactor indexes, FTSE Russell offers an array of indexes tracked by ETFs that combine more than one smart beta metric. For example, the $4.9 billion Schwab Fundamental U.S. Large Company Index ETF (FNDX), the second largest smart beta ETF connected to the firm, is constructed based on fundamental metrics; namely, sales, cash flow, dividends and buybacks.

Three of the four metrics are also used in the Invesco FTSE RAFI U.S. 1000 ETF (PRF), a $3.8 billion ETF, but book value replaces buybacks. Despite largely similar approaches, the portfolios are different. FNDX’s largest sector weighting as of mid-April was information technology, at 20% of assets, but this sector was just a 15% stake in PRF.

As with S&P Dow Jones Indices, a dividend ETF tracking a FTSE Russell Index had the most assets. The Vanguard High Dividend Yield ETF (VYM) recently had $24 billion in assets, more than the next nine largest ETFs that track a FTSE Russell Index combined. VYM is a peer of DVY, focused on high-dividend-yielding securities. Vanguard also offers an international version, the Vanguard International High Dividend Yield ETF (VYMI), which has $1.1 billion in assets.

 

Largest Smart-Beta ETFs Tied To FTSE Russell Index (Assets In $M)

Name

Ticker

Family

Smart Beta Type

Assets ($M)

Vanguard High Dividend Yield

VYM

Vanguard

Dividend

23,553

Schwab Fundamental US Large Company

FNDX

Schwab

Multi Factor 

4,875

Schwab Fundamental International Large Company 

FNDF

Schwab

Multi Factor

3,879

Invesco FTSE RAFI US 1000

PRF

Invesco

Multi Factor

3,796

Schwab Fundamental US Small Company

FNDA

Schwab 

Multi Factor

2,924

Schwab Fundamental Emerging Mkts Large Company

FNDE

Schwab

Multi Factor

2,065

Schwab Fundamental Intl Small Cap Company

FNDC

Schwab

Multi Factor

1,570

Franklin LibertyQ US Equity

FLQL

Franklin 

Multi Factor

1,312

Invesco FTSE RAFI US 1500 Small-Mid

PRFZ

Invesco

Multi Factor

1,257

Vanguard Intl High Dividend Yield

VYMI

Vanguard

Dividend

1,118

Source: First Bridge Data, a CFRA company; March 31, 2020

 

 

Conclusion

Smart beta ETFs come in different shapes and sizes, as MSCI, S&P Dow Jones and FTSE Russell have partnered with asset managers to help with potential reward generation or risk mitigation.

While each index provider has had high success with one or two approaches, investors need to understand that the different ingredients used in their kitchens result in distinct portfolios.

A close look inside explains why the performance records do not match, and highlights the merits of a holdings-based ETF star ratings approach like the one used by CFRA.

All of the views expressed in this research report accurately reflect the research analyst's personal views regarding any and all of the subject securities or issuers. No part of the analyst's compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in this research report. For more information, please refer to CFRA's Legal Notice at https://www.cfraresearch.com/legal/

Copyright © 2020 CFRA. All rights reserved. All trademarks mentioned herein belong to their respective owners.

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