Tag Archives: mutual-fund

These Funds And ETFs Are Now Poised To Outperform

For several years now, I have been recommending that investors put a somewhat higher emphasis on two categories of stock funds/ETFs, namely Large Value and International, along with a lower emphasis on domestic Large Growth and Small-/Mid-Cap. The reason is straightforward to me although less than obvious for most: While the former two categories have consistently trailed US broad stock benchmarks over the last several years, the latter two have at times exceeded them. In the sometimes upside down world of fund investing, there is a tendency, usually after a considerable number of years, for underperforming and relatively weak performing categories to switch places with the well-performing ones. The same is true for ETFs. Finally, after some trepidation that the approach was not working as expected, except in the case of Small-Cap funds which have indeed gone from being stellar performers to among the weakest over at least the last year, it now appears that the strategy may be beginning to pay off. However, it has been a frustratingly long wait, although an interval of one or two years for such an expected turnaround should not be regarded as particularly unusual. Large Value I believe the long expected rotation to value stocks may now be underway. So far this year, all three value stock category averages, Large, Mid-Cap, and Small, are running well ahead of their three growth stock brethren categories. The average Large Cap Value fund is outperforming the average Large Cap Growth fund by over 4%. While such a short spurt may not in itself seem significant, on a quarterly basis one has to go back consecutive 29 quarters, to the third quarter of 2008, to see an outperformance by Large Value over Large Growth that is that large. Note: Performance figures cited are through Apr. 20 unless otherwise noted. If Large Cap Value funds continue to outperform Large Cap Growth at the same pace for the rest of the year, there would be a huge 12% spread by year’s end. While such a large disparity might seem highly unlikely, it cannot be totally dismissed. If you compare the performance of two Vanguard index funds, Vanguard Index Value (MUTF: VIVAX ) and Vanguard Index Growth (MUTF: VIGRX ) as proxies for each of these categories, you will see that over the last 9 years, going back to May 1, 2007, Value has gone from a NAV (Net Asset Value) of 27.85 to only 33.03 for a cumulative gain of 18.6% (not annualized, excluding dividends). Growth, on the other hand, has gone from a NAV of 31.44 to 55.64 for a gain of 77.0%. The difference is a whopping 58.4%. When averaged out over the 9 years, VIGRX has exceeded VIVAX by about 6.5% per year. You would find the same discrepancies if you looked at the ETF equivalents of these funds, Vanguard Value ETF (NYSEARCA: VTV ) and Vanguard Growth ETF (NYSEARCA: VUG ), since they encompass the identical portfolios as these mutual funds. Since Large Value has been so far behind, merely gaining back one year of this outperformance for the rest of this year would bring it close to an 11% outperformance of Large Growth. However, it seems far more likely that the category will see smaller outperformances over quite a few of a number of upcoming years to enable it to eventually catch up to Large Growth. I, for one, believe such an equalization is reasonable to expect. In fact, history shows that value stocks tend to be better long-term performers than growth stocks, supporting the potential for a big upcoming turnaround. What else might argue for my suggested Large Value overweighting? Evidence suggests that as the Fed raises interest rates which they already have begun to do, value stocks tend to get stronger. (For a further discussion of this, see the following article .) Further, with growth stocks having reached a greater degree of overvaluation in the recent past than value stocks (although each category is more fairly valued now), Large Growth stocks would seem more likely to suffer if and when investors become unnerved and decide that they need to protect their profits. International Stocks Even more severe than the long-term underperformance of value stocks has been that of International funds/ETFs. When one compares the performance of the average International category fund with that of the S&P 500 index over the last 10 years (thru Mar. 31), one finds an annualized total return for the foreign category of 1.8% vs 7.0% for the US-only index. Emerging Market funds have done only slightly better at 2.5%. Is there any sign of a possible turnaround here? While only tentative given the short time period, a proxy for the entire International category, the Vanguard Total International Stock Index Fund (MUTF: VGTSX ), has gone from a NAV of 12.87 on 01/20/2016 to 14.98 on 4/20 for a 16.4% gain over 3 mos. Looking back over its quarterly returns, one has to go back to the 3rd quarter of 2010 (21 consecutive quarters ending this past Dec.) to find a gain that big. The same can be said for emerging markets. Looking at the Vanguard Emerging Mkts. Index Fund (MUTF: VEIEX ), the NAV has gone from 18.06 on 01/21/2016 to 22.38 on 4/20 for a gain of 23.9%. To find a closely comparable quarterly gain, one would need to go back to the 3rd quarter of 2009 (25 consecutive quarters, ending this past Dec.). Once again, you would get essentially the same results as above with Vanguard Total International Stock ETF (NASDAQ: VXUS ) and Vanguard FTSE Emerging Markets ETF (NYSEARCA: VWO ). For both Large Value and International stocks, while not proof that a longer-term turnaround will be forthcoming, the data seem to be possibly suggesting that these categories of funds/ETFs will be better places to emphasize within a diversified portfolio over the next few years. With International stocks, and especially emerging markets relatively undervalued, these categories of funds/ETFs would appear more appealing than US-only stock funds when looking at annualized return potentials over at least the next several years. Still, there can be many “false dawns” where a category seems to be making a comeback but, not much later, falls back again. And, even if the outperformances I expect occur, it may not mean excellent absolute returns but only relatively better returns than the aforementioned competing categories. But especially when viewed over the longer term, an approach that incorporates the notion of comebacks by underperforming categories often seems to be an effective strategy when deciding which funds to emphasize within portfolio whenever considering periodic changes. But turnarounds don’t just happen because one “thinks” they should happen. The necessary ingredient is typically that the category in question has either become under-/overvalued, or, a major and usually unexpected development occurs within the markets that creates a nearly totally new mindset in investors, or both. While the second of these conditions is almost impossible to predict and is relatively rare, the first can be recognized by investors who are willing to pay close attention to relatively extreme over- or under-performance within the category averages. Disclosure: I am/we are long IN ALL OF THE MUTUAL FUNDS MENTIONED. 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.

Q2 2016 Sector Ratings For ETFs And Mutual Funds

At the beginning of the second quarter of 2016, no sectors earn an Attractive-or-better rating. Our sector ratings are based on the aggregation of our fund ratings for every ETF and mutual fund in each sector. See last quarter’s Sector Ratings here . Investors looking for sector funds that hold quality stocks should focus on the Consumer Staples and Information Technology sectors. These sectors, despite not earning an Attractive rating overall, contain the highest percentage of assets allocated to Attractive-or-better rated funds. Figures 4 through 7 provide more details. The primary driver behind an Attractive fund rating is good portfolio management , or good stock picking, with low total annual costs . Attractive-or-better ratings do not always correlate with Attractive-or-better total annual costs. This fact underscores that (1) cheap funds can dupe investors and (2) investors should invest only in funds with good stocks and low fees. See Figures 4 through 13 for a detailed breakdown of ratings distributions by sector. Figure 1: Ratings For All Sectors Click to enlarge Source: New Constructs, LLC and company filings To earn an Attractive-or-better Predictive Rating, an ETF or mutual fund must have high-quality holdings and low costs. Only the top 30% of all ETFs and mutual funds earn our Attractive or better ratings. U.S. Global Jets ETF (NYSEARCA: JETS ) is the top rated Industrials fund. It gets our Very Attractive rating by allocating over 66% of its value to Attractive-or-better-rated stocks. Southwest Airlines (NYSE: LUV ) is one of our favorite stocks held by JETS and earns a Very Attractive rating. Over the past decade, Southwest Airlines has grown after-tax profit ( NOPAT ) by 17% compounded annually. During this time period, the company’s return on invested capital ( ROIC ) improved from 6% in 2005 to a top quintile 17% over the last twelve months. However, LUV is only up 6% over the past year, and shares have become undervalued. At its current price of $44/share, LUV has a price to economic book value ( PEBV ) ratio of 0.9. This ratio means that the market expects Southwest’s NOPAT to permanently decline by 10%. If Southwest can grow NOPAT by just 5% compounded annually for the next decade , the stock is worth $65/share today – a 48% upside. Saratoga Advantage Energy & Basic Materials Portfolio (MUTF: SBMBX ) is the worst Energy fund. It gets our Very Dangerous rating by allocating over 55% of its value to Dangerous-or-worse-rated stocks. Making matters worse, its total annual costs are a whopping 6.26%. ConocoPhillips (NYSE: COP ) is one of our least favorite stocks held by SBMBX and earns a Dangerous rating. ConocoPhillips’ business has been deteriorating for quite some time. Over the past decade, the company’s NOPAT has declined from $15.8 billion to -$586 million. Over the same time frame, its ROIC fell from 18% in 2005 to a bottom quintile 0% in 2015. Unfortunately for investors, the price decline over the past two years has not been enough and COP remains overvalued. To justify its current price of $39/share, COP must grow revenue by 20% compounded annually for the next 16 years . Keep in mind that COP’s revenues have declined each of the last four years and it’s easy to see just how optimistic the expectations baked into COP remain. Figure 2 shows the distribution of our Predictive Ratings for all sector ETFs and mutual funds. Figure 2: Distribution of ETFs & Mutual Funds (Assets and Count) by Predictive Rating Click to enlarge Source: New Constructs, LLC and company filings Figure 3 offers additional details on the quality of the sector funds. Note that the average total annual cost of Very Dangerous funds is over seven times that of Very Attractive funds. Figure 3: Predictive Rating Distribution Stats Click to enlarge * Avg TAC = Weighted Average Total Annual Costs Source: New Constructs, LLC and company filings This table shows that only the best of the best funds get our Very Attractive Rating: they must hold good stocks AND have low costs. Investors deserve to have the best of both and we are here to give it to them. Ratings by Sector Figure 4 presents a mapping of Very Attractive funds by sector. The chart shows the number of Very Attractive funds in each sector and the percentage of assets in each sector allocated to funds that are rated Very Attractive. Figure 4: Very Attractive ETFs & Mutual Funds by Sector Click to enlarge Source: New Constructs, LLC and company filings Figure 5 presents the data charted in Figure 4. Figure 5: Very Attractive ETFs & Mutual Funds by Sector Click to enlarge Source: New Constructs, LLC and company filings Figure 6 presents a mapping of Attractive funds by sector. The chart shows the number of Attractive funds in each sector and the percentage of assets allocated to Attractive-rated funds in each sector. Figure 6: Attractive ETFs & Mutual Funds by Sector Click to enlarge Source: New Constructs, LLC and company filings Figure 7 presents the data charted in Figure 6. Figure 7: Attractive ETFs & Mutual Funds by Sector Click to enlarge Source: New Constructs, LLC and company filings Figure 8 presents a mapping of Neutral funds by sector. The chart shows the number of Neutral funds in each sector and the percentage of assets allocated to Neutral-rated funds in each sector. Figure 8: Neutral ETFs & Mutual Funds by Sector Click to enlarge Source: New Constructs, LLC and company filings Figure 9 presents the data charted in Figure 8. Figure 9: Neutral ETFs & Mutual Funds by Sector Click to enlarge Source: New Constructs, LLC and company filings Figure 10 presents a mapping of Dangerous funds by fund sector. The chart shows the number of Dangerous funds in each sector and the percentage of assets allocated to Dangerous-rated funds in each sector. The landscape of sector ETFs and mutual funds is littered with Dangerous funds. Investors in Utilities funds have put over 65% of their assets in Dangerous-rated funds. Figure 10: Dangerous ETFs & Mutual Funds by Sector Click to enlarge Source: New Constructs, LLC and company filings Figure 11 presents the data charted in Figure 10. Figure 11: Dangerous ETFs & Mutual Funds by Sector Click to enlarge Source: New Constructs, LLC and company filings Figure 12 presents a mapping of Very Dangerous funds by fund sector. The chart shows the number of Very Dangerous funds in each sector and the percentage of assets in each sector allocated to funds that are rated Very Dangerous. Figure 12: Very Dangerous ETFs & Mutual Funds by Sector Click to enlarge Source: New Constructs, LLC and company filings Figure 13 presents the data charted in Figure 12. Figure 13: Very Dangerous ETFs & Mutual Funds by Sector Click to enlarge Source: New Constructs, LLC and company filings D isclosure: David Trainer and Kyle Guske II receive no compensation to write about any specific stock, sector 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.

The Ins And Outs Of Municipal Closed-End Funds

Given the likely continuation of the record low fixed income yield environment for the foreseeable future, potential periods of heightened, future stock market volatility and attractive current yields versus comparable taxable investments, municipal bonds and municipal bond-oriented investment strategies, including closed-end funds , have been in high demand of late. For example, as you will see from the table below, all U.S. Traded Tax-Free National Muni Bond CEFs are now trading, on average, above their 10 year average premium/discount. This has not been the case in the last two years. Click to enlarge Source: Wells Fargo Advisors/Morningstar as of April 14, 2016 . In addition, with respect to municipal bond-focused mutual funds, U.S. Municipal bond funds recently posted their 28th consecutive week of inflows. Consider the mutual fund flow information for Municipal Bond funds relative to Taxable Bond funds below from the Investment Company Institute’s (ICI) Trends in Mutual Fund Investing report for the first two months of 2016. Mutual Fund Classification February 2016 January 2016 January – February 2016 January – February 2015 Domestic Equity -3,330 -15,480 -18,809 8,376 World Equity 10,820 10,507 21,326 13,599 Hybrid -1,457 -10,639 -12,096 6,057 Taxable Bond -3,980 -9,425 -13,405 19,914 Municipal Bond 4,690 4,269 8,959 7,230 Taxable Money Market 44,925 -10,874 34,051 -45,488 Tax-exempt Money Market -7,642 -9,372 -17,013 -2,039 Total 44,026 -41,013 3,013 7,649 Overall, the strong demand for, and low underlying supply of, municipal bonds have kept prices high and yields relatively low during the first quarter, yet I would anticipate demand remaining high for municipal bond-oriented investment strategies for the balance of 2016. As a result, for those interested in adding, or increasing, allocations to municipal bonds through CEFs to their client portfolios, the following overview of the municipal bond CEFs may prove helpful. At present, there are 176 closed-end funds in the Tax-Free Income category outstanding across 19 different strategies; some national and some state specific, according to CEFConnect.com. Category Strategy # of CEFs Tax-Free Income High Yield 6 Tax-Free Income National 88 Tax-Free Income (State) Arizona 2 Tax-Free Income (State) California 22 Tax-Free Income (State) Connecticut 1 Tax-Free Income (State) Florida 1 Tax-Free Income (State) Georgia 1 Tax-Free Income (State) Maryland 2 Tax-Free Income (State) Massachusetts 4 Tax-Free Income (State) Michigan 4 Tax-Free Income (State) Minnesota 2 Tax-Free Income (State) Missouri 1 Tax-Free Income (State) New Jersey 8 Tax-Free Income (State) New York 21 Tax-Free Income (State) North Carolina 1 Tax-Free Income (State) Ohio 3 Tax-Free Income (State) Pennsylvania 6 Tax-Free Income (State) Texas 1 Tax-Free Income (State) Virginia 2 Since CEFs contain their own unique set or risk considerations, including but not limited to the utilization of leverage, it is critical in my view to employ a comprehensive set of selection criteria beyond just looking for those CEFs that have the highest current yield and/or are trading at the deepest discount relative to their own net asset value (NAV). In this regard, some of the screening criteria that we consider at SmartTrust® when selecting municipal CEFs for our applicable unit investment trust (UIT) strategies include, but is not limited to, the following: · Market Cap & Liquidity – measured by total net assets, in U.S. dollars, and average trading volumes of the CEF. We generally look for CEFs with total net assets of $100mm or greater, while also giving consideration for average trading volume. · Distribution Rate – this is the current distribution rate, or yield, of the CEF and is a measure of the current annualized distribution amount divided by the current price – not the NAV. · Distribution Amount – most current cash distribution amount per share. We are only interested in looking at regular income distributions and disregard returns of principal, special (i.e. non-regular) distributions, short term capital gains and long term capital gains. · Earnings per Share (EPS) – this is the most current amount that the CEF earned per share. We generally exclude those CEFs with negative earnings per share. · Earnings/Distribution Coverage Ratio – this ratio compares current earnings to current monthly distribution amounts where ratios over 100% indicate that the CEF is “over-covered” from an earnings/distribution standpoint and ratios under 100% indicate that the CEF is “under-covered” from an earnings/distribution standpoint. We prefer CEFs that have a high Earnings/Distribution Coverage Ratio. · Undistributed Net Investment Income (UNII) – the life-to-date balance of a fund’s net investment income less distributions of net investment income. UNII appears in shareholder reports as a line item on a fund’s statement of changes in net assets. We consider UNII as a cash buffer or a cash reserve to a CEF portfolio. We typically do not consider CEFs with negative UNII balances. · UNII/Distribution Coverage Ratio – this ratio compares current UNII balances to current monthly distribution amounts to determine how many months of distribution coverage are covered by the CEF’s UNII balance. · Premium / (Discount) -the amount which a closed-end fund market price exceeds (premium) or is less than (discount) the net asset value of that CEF. We contend that a CEF trading at a premium does not necessarily mean it is overvalued and a CEF trading at a discount is not necessarily undervalued. There is nothing written in stone that states that a closed-end fund (CEF) ever has to trade at its net asset value. · 52 Week Average Premium / (Discount) – to help gauge the relative value of the current premium / (discount) of a given CEF, we compare the current to premium / (discount) to the 52 week average premium / (discount). Such comparisons are done not only for the CEF itself but also in relation to their category/strategy. For example, CEFs trading below their 52 week averages represent greater relative value to us than those CEFs trading above their 52 week averages. · Effective Leverage ( and type of leverage employed ) – total economic leverage exposure of the CEF and includes structural leverage, which is calculated using leverage created by a fund’s preferred shares or debt borrowings by the fund, as well as leverage exposure created by the fund’s investment in certain derivative investments (including, but not limited to, reverse repurchase agreements). Leverage is typically represented as a percentage of a fund’s total assets. Given the current record low interest rate environment, many CEF managers are still currently employing some form of leverage to enhance their portfolio yields and take advantage of low relative borrowing costs. For example, approximately 97% of all tax-free income CEFs currently employ some form of leverage. Recognizing that portfolio leverage may increase the volatility of a given CEF and leverage itself can provide less value when short-term rates approach or exceed long-term rates, we pay careful attention to the type and amount of leverage that each CEF strategy employs, especially as we are now within what is likely to be a protracted period of gradually rising interest rates. · Expense Ratio – it is important to be cognizant of the effect that the underlying CEF expense ratios have on the overall portfolio performance of the strategy. · Credit Quality – most CEF sponsors report the credit quality breakdown of the underlying bond holdings within their portfolios at different reporting periods. · Maturity – most CEF sponsors report the maturities of the underlying bond holdings within their portfolios at different reporting periods. · Option Adjusted Duration (OAD) – while all CEF sponsors do not necessarily report the OAD of the underlying bond holdings within their portfolios at different reporting periods, financial software providers, such as Bloomberg, do calculate and provide this interest rate sensitivity based information. · AMT Percentage – most CEF sponsors report the AMT percentages of the underlying bond holdings within their portfolios at different reporting periods. This information may be helpful for portfolios allocations to high new worth clients who are within a higher tax bracket. · % of Portfolio Pre-refunded – most CEF sponsors report the percentage of their portfolios that are pre-refunded related to the underlying bond holdings within their portfolios at different reporting periods. We generally look favorably on pre-refunded bonds. To appreciate our perspective, it is necessary to understand how pre-refunded bonds work. Pre-refunded bonds are issued to fund another callable municipal bond, where the issuer of the municipal bond actually decides to exercise its right to buy its bonds back before the bond’s scheduled maturity date. The proceeds from the issue of the lower yield and/or longer maturing pre-refunding bond will usually be invested in U.S. Treasury bills until the scheduled call date of the original bond issue occurs, thereby reducing the credit risk of the original bond issuance. While no screening criteria can guarantee the success of a selected investment strategy, I believe that the multi-factor approach described above can be helpful in uncovering municipal CEFs that strive to pay high, sustainable levels of tax-free income, and provide for total return potential, over the life of each CEF investment strategy. Disclosure: Hennion & Walsh is the sponsor of SmartTrust® Unit Investment Trusts (UITs). For more information on SmartTrust® UITs, please visit smarttrustuit.com . The overview above is for informational purposes and is not an offer to sell or a solicitation of an offer to buy any SmartTrust® UITs. Investors should consider the Trust’s investment objective, risks, charges and expenses carefully before investing. The prospectus contains this and other information relevant to an investment in the Trust and investors should read the prospectus carefully before they invest. 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.