Pacer Adds To Trend-Following Lineup
New ETF switches between fixed income and equity sectors.
Today Pacer is rolling out a new addition to its lineup of trend-following ETFs, but with a slightly different approach than the funds in its Trendpilot family. The Pacer WealthShield ETF (PWS) will allocate between fixed income and a sector portfolio.
PWS comes with an expense ratio of 0.60% and lists on the Cboe exchange. Cboe Global Markets is the parent company of ETF.com.
According to Sean O’Hara, head of Pacer’s ETF operations, the firm was approached by an outsourced CIO for a number of advisory firms who had developed an algorithm that provided a market signal. It had been adopted by a number of firms, and the signal’s developer thought it would work best in an ETF wrapper due to the challenges of managing a multi-asset portfolio that is updated on a monthly basis. Pacer, in turn, took the signal and built it into an index methodology.
“There’s a pretty good following already in the marketplace, but we can provide a one-ticker solution,” O’Hara noted, pointing out that an ETF is a much simpler way for an RIA to implement the strategy than managing the portfolio themselves.
Methodology
The fund’s underlying index determines its allocations based on the strength of the high-yield bond market relative to U.S Treasuries and the momentum of different sectors and fixed-income securities.
On a monthly basis, the index evaluates the ratio of the S&P U.S. High Yield Corporate Bond Index to the S&P U.S. Treasury Bond 7-10 Year Index, or what the methodology refers to as the “risk ratio.” When the ratio is at or above its five-month exponential moving average, the index shifts to equity exposure, but if it’s below the five-month exponential moving average fixed, the index shifts to fixed-income exposure.
When the index is in equity mode, it selects the top five sector and industry indexes from a list of a dozen benchmarks based on performance. The 11 sectors represent subsets of the S&P 500: energy, materials, information technology, industrials, financials, health care, utilities, real estate, telecom, consumer staples and discretionary. The list also includes two industry groups: biotechnology and internet.
The five index exposures are equally weighted, but if any of them are below their seven-month moving average, they are replaced by an allocation to three-month Treasury bills.
When the index switches to a fixed-income allocation, it allocates to the S&P U.S. Treasury Bond 20+ Year Total Return Index, unless the index is below its seven-month exponential moving average, in which case the allocation will shift to three-month U.S. Treasury bills.
“The idea is that the formula is supposed to move you away from the 20-year Treasury choice if rates are rising, and into T-bills if they’re not,” O’Hara said.
Trend-Following Plus
Although Pacer has an existing lineup of trend-following ETFs marketed under the Trendpilot name, PWS takes that strategy a bit farther, he notes.
Pacer offers four Trendpilot ETFs, the largest of which is the $685 million Pacer Trendpilot U.S. Large Cap ETF (PTLC). However, the Trendpilot methodology is much simpler, toggling between two indexes representing fixed income and equities based on a moving average.
“When you use that second layer to pick sectors, what you’re trying to do there is produce excess return, clearly. It’s a slightly more aggressive way to do trend following,” O’Hara added in reference to PWS.
He describes the fund as a core equity holding that offers some risk mitigation, similar to the Trendpilot ETFs. However, O’Hara also points out that PWS could be used as a type of alternative strategy because of its risk-on/risk-off nature.
“Those are the two ways people would use a core strategy like this in a portfolio: as a complement to your long-only equity or as a sleeve in your alternative strategy,” he said.
Contact Heather Bell at [email protected]