Why RSP’s Outperformance Will Fade

November 11, 2013

Equal-weighted RSP has beaten the S&P 500 for years. That may be changing.

We’re generally pretty skeptical of better mousetraps around here, especially when people start kicking the word “alpha” around. So when we were building the methodology behind our ETF Analytics platform, we had big arguments about how to handle ETFs that claim to have a strategy to beat the market.

In the end, being geeks, we decided to let the math do the speaking. So we take every ETF and measure it against a naive benchmark for its targeted exposure, and we run all the regressions, and we calculate alpha and beta and R2 and all those wonderful nerdy stats.

But then we also go a step further—it’s not enough to show that your strategy generates alpha, you have to show you’ve generated statistically significant alpha. That means we use statistical tests that ask the question, What are the chances this result is right? And we set a pretty high bar: 90 percent confidence.

To be honest, not many ETFs pass that test, and so not many ETFs get points for generating alpha in our system.

One of the ETFs that did, for quite some time, was the Guggenheim S&P 500 Equal Weight ETF (RSP | A-72). In fact, as recently as Oct. 31, we reported that RSP was generating nearly 5 percentage points of annualized alpha versus the S&P 500 Index.

I’ll be honest: It didn’t take all our fancy math to see that something cool was happening. Here’s the chart:

1_RSP_1_year_October

That’s a chart anyone can love.

Of course, there are all sorts of things that would plot higher lines on the chart. Something is always up. The question is, How much risk are you taking for that extra juice? And that’s where the math comes in. Consider how this exact same one-year chart looks, just a week later:

RSP_1_year

It looks nearly identical. RSP is still outperforming over the period by about 5 percentage points. But in this one-week period, our confidence in RSP’s outperformance went from about 97 percent to less than 90 percent. And that’s where the math can be your friend.

 

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