Massive PowerShares Expansion

June 07, 2006

PowerShares files for a major expansion of its ETF line, including 11 ETFs tied to RAFI indexes. Plus, an India fund, Intellidex small cap and more.

PowerShares Capital Management has filed with the Securities and Exchange Commission (SEC) for the right to launch 31 new exchange-traded funds (ETFs), including a full line-up of RAFI-branded ETFs, a host of Intellidex funds and a number of interesting stand-alone portfolios. This is the first major expansion of the PowerShares line-up since the company was acquired by AMVESCP earlier this year, and shows that the company is not going to change its aggressive ways.

The PowerShares filing was divided into two prospectuses, one focused on funds tied to the "fundamental indexing" methodology of Rob Arnott's Research Affiliates and one tied covering everything else.  Because the filings cover so many funds, our coverage will be divided into two parts as well, starting with the RAFI filings; to skip directly to the other products, click here.


Here comes the RAFI flood.

PowerShares has filed with the SEC for the right to launch ten new ETFs based on the "fundamental indexing" methodology of Rob Arnott's Research Affiliates (RAFI). RAFI's "fundamental indexes" weight components based on revenues, book value, cash flow and dividends, rather than market capitalization. (The four fundamental factors are equally weighted.  Curiously, if a stock has never paid a dividend, that factor is discarded rather than set at zero, in an effort not to completely ignore growth stocks.)

RAFI argues that this "fundamental weighting" methodology leads to better performance, as the indexes do not participate in stock market bubbles to the same degree as market-cap-weighted portfolios.

The RAFI indexes attracted a huge amount of attention when they debuted last year, and institutional investors like CalPERS quickly made allocations to RAFI-linked portfolios. So far, however, only one retail product has emerged: The PowerShares RAFI U.S. 1000 ETF (ticker: PRF), which debuted in December 2005.  That fund has gathered approximately $118 million in assets, and has apparently inspired PowerShares to pursue a major expansion of its RAFI-branded product line.

The new PowerShares' RAFI ETFs include one U.S. small/mid-cap ETFs and nine sector-based funds. The new funds are:

PowerShares FTSE RAFI US 1500 Small-Mid Portfolio
PowerShares FTSE RAFI Basic Materials Sector Portfolio
PowerShares FTSE RAFI Industrials Sector Portfolio
PowerShares FTSE RAFI Consumer Goods Sector Portfolio
PowerShares FTSE RAFI Health Care Sector Portfolio
PowerShares FTSE RAFI Consumer Services Sector Portfolio
PowerShares FTSE RAFI Telecommunications Sector Portfolio
PowerShares FTSE RAFI Utilities Sector Portfolio
PowerShares FTSE RAFI Financial Services Sector Portfolio

The small-mid ETF will focus on stocks with a market capitalization of less than $13 billion. The sector indexes are complete indexes, holding up to 1,000 stocks each (although we imagine much fewer in practice).


The initial prospectus leaves blank the question of where these funds will be listed.  Currently, the PowerShares U.S. RAFI 1000 Portfolio is the only PowerShares fund listed on the New York Stock Exchange; all other PowerShares funds are listed on the American Stock Exchange (Amex). 

70 Basis Points!

One concerning fact about the new ETFs is that they will charge a uniform 70 basis points.  Offhand, that is the highest expense ratio I know of for any domestic ETF (and if it's not the highest, it's awful close). 70 basis points is getting mighty pricey for an index-linked domestic ETF.  The index industry needs to remember John Bogle's famous maxim: In investing, you get what you don't pay for.

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