Today Cambria Investments is launching an ETF that looks to mitigate the risk of a plunge in the stock market. The Cambria Tail Risk ETF (TAIL) is actively managed and comes with an expense ratio of 0.59%.
The fund is listed on the Bats exchange, which is owned by ETF.com's parent company, CBOE.
“We try to only launch funds that don’t exist or that we think we can do cheaper,” said Mebane Faber, Cambria’s chief investment officer. At 59 basis points, TAIL is definitely cheaper than its likely competitors, like the Janus Velocity Tail Risk Hedged Large Cap ETF (TRSK), which charges 0.70%, or the Barclays ETN+ S&P Veqtor ETN (VQT), which charges 0.95%.
“If you’re looking for vehicles that are useful from a hedging perspective, there’s not a lot of good options out there,” Faber added. He pointed out that while inverse funds are expensive, VIX-based hedging tools are expensive and hard for investors to understand.
Put Option Strategy
TAIL will invest in cash and U.S. government bonds while implementing a put option strategy that is intended to provide a hedge against tail risk in the domestic equities space. The fund will use roughly 1% of its assets under management to purchase out-of-the-money put options on domestic stock indexes on a monthly basis, the prospectus said.
An out-of-the-money put option refers to a put option for which the strike price is lower than the market price of the index or stock it is tied to. The prospectus says that the fund primarily purchases put options in the 0% to 30% out-of-the-money range, and that when the value of the index they are based on declines, the put will provide some protection against that downside risk, albeit at a cost. The fund reinvests any gains in bonds and ultimately seeks to achieve growth along with lower volatility relative to a portfolio of cash and U.S. bonds.
“This fund, from a pure standpoint, is not a good investment: It’s designed to not have a positive expected return,” Faber said, noting that in most years it will lose money. However, when the U.S. stock market takes a sharp downward turn, as happened in 1987 and 2008, TAIL is designed to cushion the blow.
“It’s meant as a sort of disaster exposure,” he added. Faber further pointed out when the market is expensive and volatility is low, such as in the current environment, that’s historically been a good time to hedge one’s exposure.
PowerShares Debuts Two, Two-Factor ETFs
Invesco Powershares is bringing to market two factor-focused funds targeting momentum paired with value, and quality paired with size. The PowerShares S&P 500 Value With Momentum Portfolio (SPVM) and the PowerShares S&P SmallCap Quality Portfolio (XSHQ) come with expense ratios of 0.30% and 0.29%, respectively.
Both funds are listed on the Bats exchange.
SPVM’s index selects its 100 components from the constituents of the S&P 500 Index, by first selecting the 200 stocks with the highest value scores based on book-value-to-price ratios, earnings-to-price ratios and sales-to-price ratios. From that pool, the methodology selects the 100 stocks with highest positive momentum scores. Those 100 stocks are weighted by their value scores to formulate the index, which is rebalanced semiannually, according to the prospectus.
Meanwhile, XSHQ’s underlying index assigns quality scores to the components of the S&P SmallCap 600 Index based on return on equity, accruals ratios and financial leverage ratios. It selects the 120 companies with the highest scores and weights them by those same quality scores. Like SPVM’s index, it is rebalanced semiannually.
The launch of the two funds further rounds out PowerShares’ family of factor ETFs, which currently includes funds targeting low volatility, momentum, quality, value, size and dividend yield.
Contact Heather Bell at [email protected].