Deconstructing ‘Smart Beta’

August 21, 2014


If you think yield will outperform other fundamental or technical factors, or if income is your top priority, you’ll want to load up on plain-old dividend funds. If you prefer to spread out your bets, a fundamental or multifactor fund like SCHD or QDF could be perfect for your portfolio. It’s all about what’s smart for you.

Labeling and talking about funds by strategy allows us to hone in on the funds we want. It’s much more sophisticated and useful than lumping funds into an ill-defined smart-beta group, and much more reliable than hoping for guidance from a fund’s name.

Comparing Strategies’s strategy label lets us compare strategy results across sectors, countries or time periods. We can dig into a segment and describe its competitive landscape. And we can understand its performance under a variety of market conditions. If a strategy happens to produce significant risk-adjusted alpha, we can talk about why, or why some implementations of the strategy might be working better than others.

Take the U.S. large- and midcap low-volatility funds, for example.

As of May 12, 2014, the oddly named iShares MSCI USA Size Factor ETF (SIZE | B-78), which weights its 600-plus large- and midcap securities to favor low volatility, returned 16.85 percent over the past year. That compares with an 11.07 percent return for the PowerShares S&P 500 Low Volatility Portfolio (SPLV | A-49), which both selects and weights its constituents by low volatility. The SPDR Russell 1000 Low Volatility ETF (LGLV | B-66), which uses an optimizer to select and weight for low volatility, while reducing momentum, beta and turnover, split the difference of the other two ETFs, with returns of 14.77 percent.

Meanwhile, the SPDR S&P 500 ETF (SPY | A-97) bested them all, with a return of 18.40 percent. For the past year, the less-intensely low volatility, the better. Interesting, right?

The buy-write ETFs also tell an interesting tale. Two ETFs write calls on the S&P 500: the PowerShares S&P 500 BuyWrite Portfolio (PBP | C-59) and the Horizons S&P 500 Covered Call (HSPX | C-82). PBP writes at-the-money calls on the S&P index, trading premium income for each month’s potential S&P 500 appreciation. HSPX writes out-of-the-money calls on single stocks, earning less premium income than PBP, but preserving more of the S&P 500 Index’s potential upside.

In 2014’s sideways equity markets, selling premium has paid off. PBP’s year-to-date 4.01 percent return is nearly twice HSPX’s 2.15 percent, or the S&P 500’s 2.40 percent, as of May 16, 2014. If we get a sudden rally, the situation should reverse.

Strategy matters. Smart investors should focus on fund construction, not on marketing claims.’s new Strategy label is a great starting place.

For more information on’s Strategy field and the methodology for classifying funds by that metric, please contact Elisabeth Kashner at [email protected].


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