ETF Report: Outsmarting The Market

March 11, 2014

Do-It-Yourself Alpha

Many advisors whose minds are indeed open to alternative-beta products eschew the broader brush strokes of ETFs like PRF or the WisdomTree Emerging Markets Equity Income Fund (DEM | D-76) or even the First Trust Large Cap Core AlphaDEX Fund (FEX | B-69).

Instead, they seek to create their own portfolios that outperform broad-market benchmarks such as the S&P 500 Index using smart-beta funds to achieve that objective. They do use broad and ultra-cheap cap-weighted index funds for the core of a portfolio, but add smart-beta funds with factor tilts on the perimeter—say low volatility, momentum or perhaps quality.

"The portfolio should tell the story," said Scott Kubie, chief investment strategist at Omaha, Neb.-based CLS Investments. "If you look at your portfolio and you have an overweight in growth because you want to add momentum, why not just own momentum?"

"That's a clear communication of how much your allocation is to yourself. But it's also a clear indication to your clients that this is what's going on in my portfolio, these are the things I'm emphasizing. I think that's a better way of doing it," Kubie added.

He said multifactor alternative beta funds with indexes from, say, Research Affiliates or WisdomTree are really meant to replace core exposure, and that's not the way he builds portfolios.

"If I were a passive investor who didn't ever trade and who didn't want to add things that added a little value, I'd be a lot more interested in the RAFI or WisdomTree products for a larger allocation," noted Kubie.

Instead, Kubie said he owns ETFs zeroing in on momentum, quality, value and minimum volatility. "Those four are the strongest ones out there. We're an active manager and we want to target what we want to own, and we want the option of moving out of it."


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