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ETF Winners And Losers As Fed Stands Pat

By Max Chen and Tom Lydon With the Federal Reserve keeping short-term interest rates unchanged, rate-sensitive exchange traded funds popped while some trades dependent on higher rates went out of favor, according to industry analyst ETF Trends . The Fed kept short-term rates unchanged at a range of between 0.25% and 0.5%, pointing to ongoing global economic and financial risks. Fed officials also suggested there will only be two more rate hikes this year, according to their projections, down from previous estimates of four hikes as policymakers grow more cautious in the wake of weakening overseas growth and volatility in financial markets. With the Fed holding off on further rate hikes, the PowerShares DB U.S. Dollar Index Bullish Fund (NYSEArca: UUP ) , which tracks the price movement of the U.S. dollar against a basket of currencies, lost momentum and dipped 0.6% Wednesday. A Fed rate hike would have diminished the supply of money floating around the economy and strengthened the greenback, but without the Fed’s support, the USD’s outlook looks less certain. Additionally, the Financial Select Sector SPDR (NYSEArca: XLF ) was down 0.6% Wednesday. Without high rates to support loans, banks will continue to see squeezed margins in a low rate environment. On the other hand, yield-generating assets popped as the Fed maintains lower rates. For instance, on Wednesday, the Vanguard Dividend Appreciation ETF (NYSEArca: VIG ) rose 0.4%, Vanguard REIT ETF (NYSEArca: VNQ ) gained 0.9% and Utilities Select Sector SPDR (NYSEArca: XLU ) increased 1.0%. Dividend-generating assets were among the best performing areas of the market as a prolonged period of low interest rates typically make relatively riskier equities attractive to more conservative fixed-income assets. Additionally, the weakening dollar helped bolster commodity assets, with the broad PowerShares DB Commodity Index Tracking Fund (NYSEArca: DBC ) 1.6% higher on Wednesday. The SPDR Gold Shares (NYSEARCA: GLD ) advanced 1.5%. Gold assets would typically weaken on rate hikes since investors would shift away from non-yield-generating assets like gold, especially on a stronger dollar and lower inflation outlook. The United States Oil Fund (NYSEArca: USO ) , which tracks West Texas Intermediate crude oil futures, also pushed higher, rising 4.9% Wednesday on the weaker dollar. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Guggenheim Plans Another Equal-Weight ETF

Guggenheim, one of the country’s biggest ETF providers, was the first firm to offer strategic or smart beta ETFs with the launch of Guggenheim S&P 500 Equal Weight ETF (NYSEARCA: RSP ) in 2003. At the beginning of the year, Guggenheim had 15 equal weight ETFs with $12.6 billion in assets under management. Other equal weight ETFs by Guggenheim include Guggenheim S&P MidCap 400 Equal Weight ETF (NYSEARCA: EWMC ) and Guggenheim S&P SmallCap 600 Equal Weight ETF (NYSEARCA: EWSC ) . Continuing with this trend, the issuer has recently planned a new ETF targeting the U.S. large-cap space. Though some key information, including expense ratio, ticker and holdings, was not released, we have highlighted some of the main points of the proposed fund below. Guggenheim S&P 100 Equal Weight ETF in Focus As per the SEC filing , the proposed ETF seeks to track the performance of the S&P 100 Equal Weight Index before fees and expenses. The S&P 100 Equal Weight Index is an equal-weighted version of the S&P 100 Index, a subset of 100 common stocks of the S&P 500 Index. The index has the same securities as the capitalization weighted S&P 100, but each company in the S&P 100 Equal Weight Index is allocated a fixed weight. The S&P 100 Equal Weight Index measures the performance of the large-cap segment of the U.S. equity universe. The index uses an equal weighting strategy wherein each sector and the individual securities within each of the sectors are given equal weights. As such, concentration risk is expected to be pretty low in this fund. Presently, the index holds a well-diversified basket of 102 stocks. From a sectorial perspective, Information Technology, Financials and Industrials with weight of 15.2%, 14.8% and 14.3%, respectively, hold the top three holdings in the index (as of February 29, 2016). How Might it Fit in a Portfolio? The fund could be a good choice for investors seeking a diversified exposure to the U.S. large cap stocks. Currently, the U.S. markets are experiencing extreme volatility. Global growth concerns, escalating geopolitical tensions, a surge in the U.S. dollar and uncertainty over the timing of the next interest rate hike in the U.S. are some of the factors to be blamed for the volatility. Amid such volatile times, investors seek some smart stock-selection strategies to alleviate the risks in the market. Here is where equal weight ETFs comes into play. These funds do a great job in managing single-security risk, thanks to their equal allocation in all securities in the basket irrespective of market capitalization. As a result, it limits the risk of a severe downfall in any particular security, providing a nice balance in the portfolio. Additionally, with quarterly rebalancing, equal-weighted funds tend to cash in on the overvalued segments and reinvest in the underperforming ones, potentially allowing for outperformance if the trend reverses. But while these have a minimal concentration risk, they charge a hefty expense ratio compared to their fundamentally/capitalization weighted counterparts. ETF Competition As far as competition within the space is concerned, the fund could come up against Guggenheim’s very own product RSP or funds from other providers like PowerShares Russell Top 200 Equal Weight ETF (NYSEARCA: EQWL ) and PowerShares Russell 1000 Equal Wght ETF (NYSEARCA: EQAL ) . RSP is one of the most popular funds in its space managing an asset base of $8.7 billion and trading in good volumes of more than 1.2 million shares a day on average. The fund tracks the S&P 500 Equal Weight Index, which measures the performance of the top 500 U.S. companies in equal weights. Sector-wise, Consumer Cyclical, Industrials and Technology take the top three spots with more than 43% allocation. The fund charges 40 basis points and has returned 1.1% so far this year. EQWL, on the other hand, is comparatively less popular with an asset base of $34.1 million and trades in low volumes of roughly 2,000 shares. The fund tracks the Russell Top 200 Equal Weight Index to provide exposure to the U.S. large-cap equity market. The fund has an expense ratio of 0.25% and has lost 1.2% in the year-to-date period. Though the U.S. large cap space is not much crowded, the new fund if launched is nonetheless expected to face stiff competition from RSP, EQWS and EQAL. However, the fund might manage to build decent assets in case it charges less in fees, or if it manages to return more than the above two funds, should it pass regulatory hurdles. Original Post

Avoid These 8 ETFs And Funds Most Exposed To Valeant

Valeant Pharmaceuticals (NYSE: VRX ) fell 51% yesterday and the stock still has further to fall . While direct share holders stand to lose the most, certain fund investors face significant downside risk as well. These investors may not realize the risk they’re taking due to the shortcomings of traditional fund research , which doesn’t focus on fund holdings. By analyzing each holding of a fund, we provide investors with deeper insight into the risk/reward of funds. Our predictive ratings for ETFs and mutual funds give investors a different perspective as they are based on the quality of the fund’s holdings . Figure 1 shows the 10 ETFs and mutual funds that allocate significantly to VRX and could pose a risk to investors’ portfolios. Figure 1: Funds With Exposure To and Risk of Decline from Holding VRX Click to enlarge Sources: New Constructs, LLC and company filings Sequoia Fund (MUTF: SEQUX ) allocates just below 25% of its assets to Valeant. Diamond Hill Select Fund (MUTF: DHTAX ), FundVantage Private Capital Management Value Fund (MUTF: VFPIX ), and Catalyst Insider Buying Fund (MUTF: INSAX ), earn a Dangerous-or-worse rating in part because of their poor holdings like VRX, but also because each fund charges investors high total annual costs. It’s not all negative though. Nicholas Fund (MUTF: NICSX ) and Global X Guru Index ETF (NYSEARCA: GURU ) earn an Attractive-or-better rating because the quality of the entirety of holdings makes up for their allocation to VRX. The takeaway is: Buying a fund without analyzing its holdings is like buying a stock without analyzing its business and finances. Those who bought VRX based on trust in the company non-GAAP earnings did not understand the firm’s true finances, which showed Valeant was not a good business. Without analyzing each holding, inventors are taking on unnecessary risk when investing in ETFs or mutual funds. What Makes VRX Such A Poor Holding? Valeant had been in a bit of a limbo lately, as investors awaited the long delayed 4Q15 results. The company finally released its earnings today and the results were to be expected if you heeded our previous warnings. In the release, the company recognized the significant issues it faces after the termination of its relationship with Philidor, the cancellation of almost all price increases, and underperformance in several of its business lines. Not only did Valeant report weak results for 4Q15, but looking forward, the company guided for revenue ($2.3-$2.4 billion vs. $2.8-$3.1 billion expected) and earnings ( $1.30-$1.55/share vs. $2.35-$2.55/share expected) to come in significantly below expectations. Adding even more uncertainty, Valeant also revealed that it faces a risk of default if it is unable to file its 10-K with the SEC by April 29, which would break its reporting covenant in its bond indentures. The initial filing was due February 29 but has been delayed while Valeant investigates its business relationship with Philidor. Valeant is already in the process to extend deadlines for filing it 10-Q for the first quarter of 2016. Has The House Of Cards Finally Collapsed? As early as June 2014 , we pointed out Valeant was presenting itself in a misleading way. Ultimately, the company was relying on non-GAAP metrics to present its cash flow as highly positive, when in fact, the true cash flows of the business have been highly negative. This contrast between cash flow calculations is a topic of much debate between bears and bulls of Valeant and really gets at the heart of why non-GAAP metrics continually fail investors when analyzing a company. Analysis using Valeant’s reported “Cash Earnings” weren’t getting a true picture of the company, as can be seen in Figure 2. The company’s non-GAAP “cash earnings” have grown from $421 million in 2010 to $3.55 billion over the latest trailing-twelve months (NYSE: TTM ). In reality, free cash flow has been highly negative with a cumulative -$38.4 billion in losses over the same time frame. Cumulative non-GAAP earnings during the same time are $11.2 billion. Figure 2: True Cash Flow Provides True Picture of Valeant Click to enlarge Sources: New Constructs, LLC and company filings Valeant uses non-GAAP metrics to make its business look better than it is according to corporate accounting rules (i.e. GAAP) while burning through cash at an unsustainable and alarming rate. Non-GAAP Doesn’t Pay Down Debt As seen above Valeant’s true cash flow is not only much lower than Valeant would have investors believe, it is also largely negative. While management can prop up shares by touting non-GAAP results, those results don’t help pay debt covenants because the true cash flow is not available. Debt covenants may soon become just another issue in the already long list if Valeant defaults on its bond indentures. We already know Valeant has raised significant capital, as its debt has increased from $372 million in 2009 to $30 billion over the last twelve months. Without a sale of assets, one has to wonder how well Valeant can service such debt because it won’t be happening with non-GAAP “cash earnings.” Warning Signs Were All Around The warning signs at Valeant have long been in clear view, if you looked past the positive analyst sentiment, excellent non-GAAP results, and management rhetoric. In June 2014 , we noted that Valeant was presenting its business in a misleading way to bolster its takeover attempt of Allergan. Valeant claimed it was undervalued passed on P/E ratios when in fact the company was comparing its adjusted P/E to the unadjusted P/E of industry and market peers. Additionally, Valeant claimed its previous acquisitions were value creating when in fact the company’s return on invested capital (NASDAQ: ROIC ) has been in decline for quite some time. From 2009 to the last twelve months, Valeant’s ROIC has fallen from 15% to 5%. In July 2014 , Valeant made our list of companies with the most misleading non-GAAP earnings. According to GAAP, Valeant lost $866 million in 2013, but by their non-GAAP metrics the company earned $2 billion. This disconnect stems primarily from excluding the costs related to its acquisitions. Does it make sense to exclude the costs related to how you grow your business from how you measure profits? We find that fishy. We revisited the non-GAAP red flag again in November 2015,and the story had only gotten worse. In February 2016, we placed Valeant in the Danger Zone . After today’s share price decline, VRX is down 57% since our report. Stock Remains Overvalued, Even After 40% Decline After such a drastic price decline, one might think VRX is a bargain. Not even close. Those purchasing Valeant now would be buying a highly overvalued stock with a long history of misleading accounting. These are not exactly the characteristics of a quality investment. In order to justify its current price of $36/share, the company would need to grow NOPAT by 15% compounded annually for the next 8 years . In this scenario, Valeant would be generating $29 billion in revenue, greater than AstraZeneca’s (NYSE: AZN ) 2015 revenue. Even in an ideal scenario, in which Valeant focuses on internal growth and not destructive acquisitions, VRX still has significant downside. If Valeant can grow NOPAT by 9% compounded annually for the next decade , the stock is worth $23/share today – a 36% downside. Disclosure: David Trainer and Kyle Guske II receive no compensation to write about any specific stock, style, or theme. Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.