Innovator Debuts ETF Of ETFs

December 21, 2017

Today Innovator ETFs is rolling out its second fund. The Innovator IBD ETF Leaders ETF (LDRS) will invest primarily in other ETFs and offer a tactical-asset-allocation type of exposure.

The fund lists on the NYSE Arca and comes with a total expense ratio of 1.16%, of which 0.60% is the management fee and 0.56% is the acquired fund fees.

According to Graham Day, Innovator’s vice president of product development and research, “This strategy really allows you to navigate all of the ETFs that are out there.”

“If there are all these great exposures ETFs provide, why not create a solution that essentially navigates all those ETFs and builds a strategy around investing in the best-performing ETFs?” he added. “This allows you to really take a unique approach to building a tactical asset allocation model, because we’re not screening out any issuer, we don’t screen based on fees, and it’s really allowing an investor to get exposure to tactical asset allocation in a very tax-efficient structure.”

Methodology

LDRS tracks an index from Investor’s Business Daily that uses a relative strength approach to mainly the equity and fixed-income asset classes but also occasionally alternatives. The ETFs that comprise the index are all 1940 Act funds listed on a U.S. exchange, and can include all size segments, developed and emerging markets and any level of credit quality, the prospectus says.

The document specifically notes that the selection universe does not include ETNs, commodity ETFs or leveraged and inverse ETFs, with the exception of the ProShares Short S&P 500 ETF (SH).

To be considered for inclusion, an ETF must also meet liquidity requirements, be trading above its average six-month price, have a return higher than that of the S&P 500 Index over the prior three-month period.

From there, the ETFs in the universe are ranked and scored from 1 to 99 based on their relative strength and price performance over the preceding 12 months. The portfolio includes all funds that earn a qualifying score, though if there are fewer than three funds meeting that criteria, the fund will shift that portion of the portfolio into ETFs investing in cash or cash equivalents, according to the prospectus.

The index can also allocate to cash or cash equivalents when the index nears the level that the methodology expects will trigger mean reversion.

The document notes that the index is rebalanced on a monthly basis unless the S&P 500 goes up more than 3% in a single week, in which case it will rebalance at the end of that week.

Nuances

Day notes that the combination of the relative strength strategy with the mean reversion element is unique, and means that the fund has the ability to lock in profits in areas that are getting a bit lofty and look elsewhere.

He also points out that the fund has a lot of turnover. LDRS’ underlying index had 26 component ETFs in November, but this month it is down to 13.

“The benefit of an ETF of ETFs is the ability to move across all different asset classes, geographies—you name it—but because we are using the ETF structure, we are deferring all those capital gains to when the end investor is selling their shares,” Day said.

“With something that is super tactical … you couldn’t build this type of strategy 10 years ago or even five years ago. The cost of going in and out of these markets would be prohibitive,” he added.

Innovator ETFs is led by Bruce Bond and John Southard, who co-founded PowerShares, which is now owned by Invesco and ranks as the fourth-largest ETF issuer in the U.S.

Contact Heather Bell at [email protected]

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