Daily ETF Watch: Valuation Weighted Fund

Newcomer Diamond Hill plans valuation-weighted ETF based on future cash flows.

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Reviewed by: Heather Bell
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Edited by: Heather Bell

Diamond Hill Capital Management has thrown its hat into the ETF ring via a filing made under the auspices of ETF Series Solutions’ exemptive relief. The proposed fund in question will weight its components by valuation, as determined by the firm’s proprietary index methodology.

 

According to the firm’s website, one if its core investment philosophies is the idea that discounted cash flow can be used to approximate a company’s intrinsic value, and the filing for the Diamond Hill Valuation-Weighted 500 ETF indicates that the fund’s underlying index will base its stock selection and weightings on components’ valuations, as determined by Diamond Hill’s estimates for projected earnings power and future cash flows.

 

The index, which is calculated by Solactive AG, will narrow its universe down to the 700 largest U.S.-listed stocks by market capitalization; then it will select the 500 stocks with the highest valuations according to Diamond Hill’s proprietary methodology and weight them according to those valuations.

 

The index methodology puts the proposed fund in the smart-beta category, where it doesn’t appear to have any competitors with similar methodologies. However, one of the dominant smart-beta funds in the U.S. large-cap space is the $4.4 billion PowerShares FTSE RAFI US 1000 (PRF | A-88), which tracks a fundamentally weighted index from FTSE and Research Affiliates.

 

The FTSE-RAFI methodology relies on book value, cash flow, sales and dividends to select and weight its components. However, it uses backward-looking data to do so, taking the averages over the past five years for each of those metrics, except for book value, which is based on current data.

 

That seems less complicated than Diamond Hill’s methodology, which is heavily reliant on forward-looking estimates generated by a proprietary in-house methodology, and raises the question of how Diamond Hill will market its approach to investors.

 

The Diamond Hill fund will trade under the ticker “DHVW,” according to the prospectus. But the filing didn’t include a ticker or listing exchange.

 

 

Heather Bell is a former managing editor of etf.com. She has also held editorial positions at Dow Jones Indexes and Lehman Brothers. Bell is a graduate of Dartmouth college and resides in the Denver area with her two dogs.