An iShares ETF that leverages momentum in a new way is worth a closer look.
This article is part of a regular series of thought leadership pieces from some of the more influential ETF strategists in the money management industry. Today's article features Scott Kubie, chief investment strategist at Omaha, Neb.-based CLS Investments.
April 16, 2013 will likely be noted as a landmark day for ETFs.
On that day, iShares launched three ETFs tracking MSCI indexes related to the factors of size, value and momentum.
While ETFs of each type of fund existed prior to the launch, the three ETFs launched in mid-April have increased investor access to factor-based ETFs. Each of the ETFs launched that day have merit, but the most compelling of the three is the iShares MSCI USA Momentum Factor ETF (MTUM | D-64).
While the value and size ETFs offer some distinct advantages, there were already a plethora of tools able to tilt a portfolio toward lower capitalization and value securities.
The number of ETFs targeting momentum is significantly smaller. Momentum hasn't been as widely embraced by ETF providers, so MTUM's launch created more opportunity for investors.
MTUM also is attractive because of its low 0.15 percent expense ratio, or $15 for each $10,000 invested. That expense ratio is in line with existing large style ETFs, and was lower than the expense ratios of many ETFs using alternate weighting schemes.
Momentum as a style finds its roots in academia. In 1997, Mark Carhart published a seminal paper describing how stocks with positive momentum outperformed after adjusting for the market risk as well as the size and value factors emphasized by Eugene Fama and Ken French.
As the momentum factor gained additional support, investors sought to understand its nature. Cliff Asness suggests using momentum as a replacement for the growth style box:
"Frankly, we believe that momentum is correlated to growth, but that it's a better style. Growth being the opposite of value means it has a negative passive premium, a negative long-term premium. Momentum, like growth, is negatively correlated to value but has a positive premium over time."
Statistics back up the comparison. The differences between MTUM and the MSCI USA Index are generally much wider than the differences between MTUM and the MSCI USA Growth Index.
The only valuation ratio where the broad index is closer than the growth index is the price-to-sales ratio. Investing in momentum doesn't force the investors into a big overweight in lower capitalization stocks. MTUM's market cap is only 9 percent below the broad index and just 2 percent below the growth index.
Considering small-cap stocks have done well, this is impressive.
|iShares MSCI USA Momentum Factor ETF…||P/E||P/B||P/S||P/C||Average Market Cap.|
Relative to MSCI USA
Relative MSCI USA Growth
Sources: CLS Investments, Morningstar Direct
MTUM's sector exposure also matches up well with growth. The top sector weightings are health care, consumer discretionary and technology, all of which are associated with growth.
However, momentum is not without its detractors. Momentum strategies receive criticism because they tend to chase the market.