Will RevenueShares’ Outperformance Continue?

October 01, 2009

The RevenueShares ETFs have delivered spectacular returns this year. Will the good times keep coming?


The premise behind the RevenueShares exchange-traded funds is simple: Take the stocks in a major market index and reweight them based on each company’s revenues, rather than their market capitalization.

So far this year, that small change in methodology has delivered spectacular performance.

The RevenueShares Small Cap Fund (NYSEArca: RWJ), to take one example, holds the exact same stocks as the S&P SmallCap 600 Index. But while the S&P index is up just 22% year-to-date, RWJ has delivered 45 percent gains, more than doubling the performance of the market-cap-weighted benchmark.

RevenueShares’ Paul Weisbruch says that a revenue-based approach means that, in many cases, the funds are invested in companies before they make big moves. That allows RevenueShares ETFs to capture alpha before the market-cap-weighted indexes adjust.

Others disagree.

“It seems to me that it would take a revenue-based weighting longer to catch up [with market performance], because earnings growth is implicit in the market cap,” said Craig Peckham, a trading strategist with New York-based Jefferies & Co., in an interview with IndexUniverse.com. “You’re bound to come up with a group of companies that have lower margins.”

It’s true that revenue-weighted investing skews the equation toward low-margin firms. But right now, that skew seems to be working, with all of the RevenueShares products leading the market since the market’s bottom in March.




Weighting Methodology

One reason for the big performance differences is that weighting by revenues instead of market cap can create enormous differences in the resulting portfolio. In the case of RWJ, none of the fund’s top 10 holdings are the same as the top constituents in the comparable S&P Small Cap 600. Those holdings are also much more concentrated in RWJ, with the top 10 names representing 18.9 percent of the fund’s capital vs. just 5.6 percent for the S&P Small Cap 600.

World Fuel Services, a petrochemical company, weights 3.08 percent of RWJ alone: The S&P index’s top holding is also a fuel company (Atmos Energy), but it only has a 0.7 percent weighting.

These concentrations present a certain kind of risk for investors, particularly if focused on the challenged firms.


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