Tag Archives: seeking-alpha

Time To Embrace Old Tech ETFs…Again

Summary Investors should look at old technology names for sturdy growth. A tech ETF with heavy weights in established, mature tech companies. Why invest in tech, particularly in the old guard. By Todd Shriber & Tom Lydon It was a prominent theme in 2014, though not one widely embraced by many exchange traded fund investors, but old school technology companies worked and did so in significant fashion. Amid various bouts of volatility and routs for Internet and social media funds, ETFs with an emphasis on the tech sector’s old guard shined bright. That includes the iShares U.S. Technology ETF (NYSEArca: IYW ) , which jumped 19.5% in 2014, topping the S&P 500 by 600 basis points in the process. Tech analysts point to sturdy tech names like Apple (NASDAQ: AAPL ) and Microsoft (NASDAQ: MSFT ), well-established companies that generated steady growth. Apple and Microsoft combine for 29.6% of IYW’s weight and the ETF’s 18.5% Apple allocation is one of the largest among ETFs that hold shares of the iPhone maker. Old tech and IYW could repeat last year’s heroics in 2015. Said BlackRock Global Investment Strategist Heidi Richardson in a recent note: I like mature technology companies-think large established brands like Intel (NASDAQ: INTC ), IBM (NYSE: IBM ) and Oracle (NYSE: ORCL ). These companies can use healthy cash balances to unlock shareholder value, are more likely to fare well if the Fed starts raising rates as expected this year and stand to benefit from continued improvement in the U.S. economy. Intel, IBM and Oracle combine for 13.7% of IYW’s weight. Tech’s durability in rising rates environments is an important consideration, particularly at this point in an aging bull market and amid expectations that the Federal Reserve will boost rates later this year. Said J.P. Morgan Asset Management in a research piece out earlier this year: Dispersion between sector valuations should continue to grow. For example, technology stocks appear attractive based on both forward and trailing P/E ratios when compared with their long-run histories. In contrast, the utilities sector, which many have used as a bond substitute, looks expensive on both measures. Tech’s increased credibility as a legitimate dividend destination also boosts the allure of ETFs like IYW. In 2014, the average dividend increase from Apple, IBM, Cisco (NASDAQ: CSCO ) and Qualcomm (NASDAQ: QCOM ) was 14%. Importantly, the tech sector has ample room for dividend growth. Adds Richardson: Some industry-leading companies have been hoarding cash. Consider that four information-age bellwethers―Apple, Microsoft, Google and Cisco―possess a combined $345 billion in cash. And the overall tech sector holds more than half of total corporate cash reserves in the U.S. With strong balance sheets, these companies are well-positioned to deliver returns through share repurchases, dividend increases and mergers and acquisitions. The $4.5 billion IYW has a trailing 12-month yield of 1.13%. iShares U.S. Technology ETF (click to enlarge) Tom Lydon’s clients own shares of Apple.

Review Of Leveraged ETFs In 2014

Summary There exist important reasons for ETF decay. After analysis, ETFs and particularly 3X leveraged ETFs, continued to persist in 2014. 3X leveraged ETFs are less efficient in tracking an index or basket category of securities than their un-leveraged counterparts. Introduction Across the investment and financial academic community, ETFs have been heralded as the ideal investment for passive investors. While I do not deny the numerous positive benefits of investing in an ETF over individual securities for the average retail investor, I also point out an important flaw within ETFs: ETF decay. The decay of exchange-traded funds (ETFs), and by extension, exchange-traded notes (ETNs), has been a widely known phenomenon. Some quantitative traders have attempted to profit via statistical arbitrage by buying the underlying basket securities of an ETF and short selling the ETF in order to capture the ETF decay. In this article, I analyze the decay of 3X leveraged ETFs by 25 comparing ETF pairs. (As a side note, while I reference exchange-traded products as ETFs, the same can be said for ETNs.) Important Reasons for ETF Decay The reasons for the decay of ETFs and ETNs include the following: management fees, contango & backwardation in futures based on exchange traded securities, the compounded daily effect from resetting leverage and rebalancing a portfolio to mimic an index or basket category of securities, and higher volatility contributing to higher decay. Data Here are the 25 ETF pairs used to complete the analysis of 3X leveraged ETFs for the 2014 calendar year. By definition, an ETF pair is a group of bull and bear ETFs regarding the same underlying index or other basket category. Source: Data from Yahoo Finance, Analysis in Excel (click to enlarge) Source: Data from FactSet & Yahoo Finance, Analysis in Excel Summary Results of 3X Leveraged ETF Decay To begin with, after analyzing 25 ETF pairs, 3X Bull ETFs, on average, tend to have higher volatility and kurtosis than 3X Bear ETFs. 3X Bull ETFs, on average, tend to have lower skew than 3X Bear ETFs. Second, in theory, the ideal pair of a Bull and Bear 3X ETF has a correlation coefficient of -1. Intuitively, this makes sense; for example, if an index was up +1%, then a 3X Bull ETF would be up 3% and a 3X Bear ETF would be down -3%, where the 3X ETFs would be based on the same underlying index. By definition, a correlation coefficient must be between -1 and 1. As the correlation coefficient between a pair of a Bull and Bear ETF/ETN, increases, the efficiency of this pairing decreases and the ETFs/ETNs have a higher decay. 3X leveraged ETFs were less efficient and exhibited more decay than their unleveraged counterpart ETFs. Third, in theory, ignoring commission costs and other expenses, simultaneously buying (going long on) a bear and bull ETFs on an index at the same time, cost basis, and cost value should yield a zero profit situation. In reality, a zero profit situation does not exist; in 2014, by going long on both the bull and bear ETF on the same underlying index, the median rate of return was -7.4%. When adding up the percentage performance of a bull and bear ETF on the same underlying index, the greater the summation away from 0, the greater the inefficiency and decay factor for the ETFs. Furthermore, there is a strong correlation between higher ETF/ETN volatility and higher decay. Conclusion 3X ETFs and ETNs can provide investors with an extraordinary, leveraged opportunity to capitalize on their investment ideas. Important to note, gains and losses are magnified. Some ETF pairs, such as the ProShares Ultra S&P 500 ETF ( SSO) and the ProShares Ultra 20+ Year Treasury ETF ( UBT), can be pair traded by rebalancing every month, and this strategy can help increase an investor’s rate of return. In general, 3X funds are not built to be long term positions for investors. Overall, investing in 3X ETFs and ETNs is a volatile and incredibly risky decision due to the leveraged nature of these securities. Despite the decay of leveraged ETFs, this decay has decreased from the previous year, and these ETFs seem to offer a somewhat efficient method of investors to invest by diversifying across an index or basket category in a leveraged manner.

If You Think You Are Buying Into Oil, Think Again!

Summary Difficulty in finding a spot oil exposure in the market. USO ETF does not mirror oil price movements perfectly. Long dated oil futures might provide better exposure. There is a lot of hype now looking at oil given the large volatile swings in oil price and its overall drastic decline since about a year ago. For savvy investors, this article would probably not be very relevant because you might already know this. Retail investors who read about oil prices in the news and are very new to this should however, take a closer look. The average investor would probably think of going long or short oil via exchange traded funds, namely the United States Oil Fund or USO. Some information on USO ( website ) As of Jan. 13, 2015 Market Capitalization : 1,688 million Assets Under Management: 1,667 million Management Fee: 0.45% Total Expense Ratio: 0.76% (from 9.30.2014 fund update ) According to the USO website, USO is “designed to track the daily price movements of the West Texas Intermediate (“WTI”) light, sweet crude oil”. For retail investors, this is generally a liquid counter with an average of 16.7 million shares traded daily in the past 3 months. Notably, trading volumes seems to have picked up recently perhaps because of the coverage of oil prices in the news lately. As of Jan 13, the daily volume was 33 million shares traded. Caution is Advised If an investor wants to get exposure to Spot Oil prices without renting a vessel to physically store oil, the investor may have a wrong impression that a good way would be to buy or sell the USO ETF units. Here’s why this is quite ill advised. (click to enlarge) Plotting a chart of the USO ETF with the continuous CLc1 NYMEX prices shows a very obvious trend. In 2009, WTI prices rose from $40 to $80 in a year’s time. During the same period, USO ran up from $29 to $39. A very striking difference in the return profile for an investor who wishes to invest in spot oil prices but ends up buying something different. As prices collapsed in the middle of 2014, from about $100 to right now hitting $45, the USO declined from $37 to about $18. This is also slightly less than the CLc1 movement. For those interested in some numbers, I have extracted out the month-end closing prices of both the USO and the CLc1 in the table below. Month USO CLC1 (spot) USO +/- % CLC1 +/- % Jan-09 29.22 41.75 Feb-09 27.03 44.12 -7.49% 5.68% Mar-09 29.05 48.85 7.47% 10.72% Apr-09 28.63 50.88 -1.45% 4.16% May-09 36.41 66.95 27.17% 31.58% Jun-09 37.93 70.6 4.17% 5.45% Jul-09 36.81 69.5 -2.95% -1.56% Aug-09 36.05 69.57 -2.06% 0.10% Sep-09 36.19 70.4 0.39% 1.19% Oct-09 39.31 76.99 8.62% 9.36% Nov-09 39.16 76.42 -0.38% -0.74% Dec-09 39.28 79.62 0.31% 4.19% Jan-10 35.64 72.64 -9.27% -8.77% Feb-10 38.82 79.61 8.92% 9.60% Mar-10 40.3 83.38 3.81% 4.74% Apr-10 41.33 86.22 2.56% 3.41% May-10 34.05 74.09 -17.61% -14.07% Jun-10 33.96 75.37 -0.26% 1.73% Jul-10 35.34 78.99 4.06% 4.80% Aug-10 31.91 71.68 -9.71% -9.25% Sep-10 34.84 79.81 9.18% 11.34% Oct-10 35.14 81.92 0.86% 2.64% Nov-10 36.04 83.59 2.56% 2.04% Dec-10 39 91.4 8.21% 9.34% Jan-11 38.61 92.22 -1.00% 0.90% Feb-11 39.19 96.87 1.50% 5.04% Mar-11 42.58 106.79 8.65% 10.24% Apr-11 45.15 113.42 6.04% 6.21% May-11 40.5 102.59 -10.30% -9.55% Jun-11 37.26 95.12 -8.00% -7.28% Jul-11 37.43 95.86 0.46% 0.78% Aug-11 34.51 88.72 -7.80% -7.45% Sep-11 30.5 78.75 -11.62% -11.24% Oct-11 35.74 92.58 17.18% 17.56% Nov-11 38.78 100.5 8.51% 8.55% Dec-11 38.11 99.06 -1.73% -1.43% Jan-12 37.82 98.28 -0.76% -0.79% Feb-12 40.92 106.91 8.20% 8.78% Mar-12 39.23 102.93 -4.13% -3.72% Apr-12 39.68 104.89 1.15% 1.90% May-12 32.61 86.5 -17.82% -17.53% Jun-12 31.82 84.84 -2.42% -1.92% Jul-12 32.68 87.96 2.70% 3.68% Aug-12 35.89 96.56 9.82% 9.78% Sep-12 34.13 92.1 -4.90% -4.62% Oct-12 31.78 86.01 -6.89% -6.61% Nov-12 32.56 88.94 2.45% 3.41% Dec-12 33.36 91.79 2.46% 3.20% Jan-13 35.28 97.41 5.76% 6.12% Feb-13 33.06 91.83 -6.29% -5.73% Mar-13 34.76 97.28 5.14% 5.93% Apr-13 33.16 93.32 -4.60% -4.07% May-13 32.61 91.61 -1.66% -1.83% Jun-13 34.15 96.49 4.72% 5.33% Jul-13 37.36 105.32 9.40% 9.15% Aug-13 38.48 107.76 3.00% 2.32% Sep-13 36.85 102.29 -4.24% -5.08% Oct-13 34.69 96.24 -5.86% -5.91% Nov-13 33.46 92.78 -3.55% -3.60% Dec-13 35.32 98.7 5.56% 6.38% Jan-14 34.8 97.46 -1.47% -1.26% Feb-14 36.74 102.76 5.57% 5.44% Mar-14 36.59 101.56 -0.41% -1.17% Apr-14 36.32 99.68 -0.74% -1.85% May-14 37.68 102.93 3.74% 3.26% Jun-14 38.88 105.51 3.18% 2.51% Jul-14 36.31 97.65 -6.61% -7.45% Aug-14 35.76 95.84 -1.51% -1.85% Sep-14 34.43 91.32 -3.72% -4.72% Oct-14 30.63 80.7 -11.04% -11.63% Nov-14 25.58 65.99 -16.49% -18.23% Dec-14 20.36 53.71 -20.41% -18.61% Slight percentage variations in price movements can mean quite a lot to investors. Hence, it is better to understand why this occurs before making a decision to invest. Oil futures are currently in a contango, which basically means oil prices in the future, are worth more than the current price. This usually reflects some cost of handling and storage and cost of carry. (click to enlarge) Looking at the difference between a Dec 2015 futures price of $53.32 versus the front month futures price of $45.99, it may be easy for anyone to simplistically try to mirror a hedge strategy by trying to buy the USO and selling the Dec 2015 futures. The problem lies with how the USO is priced. Here is a snapshot of what the USO holds in its Net Asset Value disclosed: (click to enlarge) (click to enlarge) As shown above, as time progresses, the fund rolls over its holdings from the current front month futures (e.g. Feb 15 futures) into the next month (Mar 15 futures). In the process of rolling over its holdings, it sells the Feb 15 futures and buys the Mar 15 futures, hence incurring the differential cost or spread between the Feb and Mar products. In the USO prospectus page 18, this phenomenon is explained and illustrated in the example quoted below. “If the futures market is in contango, the investor would be buying a next month contract for a higher price than the current near month contract. Using again the $50 per barrel price above to represent the front month price, the price of the next month contract could be $51 per barrel, that is, 2% more expensive than the front month contract. Hypothetically, and assuming no other changes to either prevailing crude oil prices or the price relationship between the spot price, the near month contract and the next month contract (and ignoring the impact of commission costs and the income earned on cash and/or cash equivalents), the value of the next month contract would fall as it approaches expiration and becomes the new near month contract with a price of $50. In this example, it would mean that the value of an investment in the second month would tend to rise slower than the spot price of crude oil, or fall faster. As a result, it would be possible in this hypothetical example for the spot price of crude oil to have risen 10% after some period of time, while the value of the investment in the second month futures contract will have risen only 8%, assuming contango is large enough or enough time has elapsed. Similarly, the spot price of crude oil could have fallen 10% while the value of an investment in the second month futures contract could have fallen 12%. Over time, if contango remained constant, the difference would continue to increase.” Conclusion I hope I have driven the point across on the USO ETF, that it is a means to get exposure to oil price movements, but it is nowhere near a perfectly correlated product.