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ALPS Plans A Put Write ETF To Play Market Volatility

The U.S. markets have seen a volatile start to the year, thanks to the relentless slide in crude oil prices, worries about a possible exit of Greece from the Euro zone, global economic growth concerns and slumping commodity prices. Rising market volatility has led some issuers to plan for funds based on put write strategy. WisdomTree has lately filed for a fund – WisdomTree CBOE S&P 500 Put Write Strategy Fund – to generate returns by writing put options on the S&P index. Most recently, ALPS has filed for a fund based on a similar strategy. The proposed fund will go under the name of ALPS Enhanced Put Write Strategy ETF (Pending: PUTX ). Below, we have highlighted some of the key details of the recently filed fund. PUTX in Focus As per the SEC filing , the proposed actively managed product looks to maximize total return by selling put options on the SPDR S&P 500 Trust ETF (NYSEARCA: SPY ). SPY tracks the S&P 500 index measuring the performance of large-cap U.S. stocks. The premium received will then be invested in an actively managed portfolio of investment grade debt securities. The portfolio will include Treasury bills, corporate bonds, commercial paper and mortgage- and asset-backed securities, having an average duration of less than 6 months and maturity of less than one year. How might it fit in a portfolio? The fund is a good choice for investors who wish to add income and thereby boost risk-adjusted returns. Investors who believe that the U.S. equity market will trade in a narrow range next year can look to invest in the fund. A put write strategy usually outperforms the index in a down trending market and significantly outperforms the S&P 500 index in a sideways market. Moreover, put write strategies have historically outperformed buy strategies. However, investors should keep in mind that the fund’s potential return is limited to the amount of option premium it receives and that the proposed fund might underperform during strong bull markets. ETF Competition The recently filed product is quite similar in strategy to the WisdomTree CBOE S&P 500 Put Write Strategy Fund. However, unlike PUTX. which sells options on SPY ETF, WisdomTree’s product looks to sell options on the S&P 500 index itself. Moreover, while PUTX looks to invest the premium received in an actively managed portfolio of investment grade debt securities with less than one year maturity, the CBOE S&P 500 Put Write Strategy Fund will invest the premium received in one-to-three month U.S. Treasury securities. As such, both the funds might be good competitors if launched. Apart from this we also have another put-write fund in the market from ALPS itself. The fund in question – US Equity High Volatility Put Write Index ETF (NYSEARCA: HVPW ) – tracks the NYSE Arca U.S. Equity High Volatility Put Write Index. The index sells put options on the largest capitalized stocks having the highest volatility. The index uses the sales proceeds to invest in short-term U.S. Treasury securities. The fund manages an asset base of $50.8 million and trades in low volumes of roughly 23,000 shares a day. The ETF charges 95 basis points as fees and has delivered flat returns in the year-to-date frame. So, there is hardly any competition for the newly proposed fund. If launched, the fund has a fair chance of making a name for itself. However, let’s not forget that success over the longer run is ultimately a huge factor of the fund’s performance.

Value Investing: Have You Been Using The Wrong Quality Ratio?

By Tim du Toit Do you think adding a company quality ratio to your investment strategy can make a difference to your returns? As you know we are skeptical, as our experience testing quality ratios in the research paper Quantitative Value Investing in Europe: What Works for Achieving Alpha was mixed. What doesn’t work We found that Return on invested capital (ROIC) and return on assets (ROA) weren’t good predictors of returns. Even though high-quality companies did do better than low-quality companies (low ROIC and ROA) returns did not increase in a linear way as you moved from low-quality to high-quality companies. And if you only invested in high-quality companies, it would not have helped you to consistently beat the market. A better quality ratio? Our thinking on quality ratios changed when we read a very interesting research paper called The Other Side of Value: The Gross Profitability Premium by Professor Robert Novy-Marx in which he defined a company quality ratio performed as well as a valuation ratio. How calculated Professor Novy-Marx defined a quality company as one that had a high gross income ratio (let’s call it Quality Novy-Marx ), which he calculated by dividing gross profits by total assets . He defined gross profit as sales minus cost of sales and assets simply total assets as shown in the company’s balance sheet (current assets + fixed assets). Does it work? In the paper Professor Novy-Marx shows that this simple ratio has about the same predictive return value as the price to book ratio in spite of companies with a high gross income ratio (Quality Novy-Marx) being a lot different if you compare them to undervalued companies with a low price to book ratio. Companies with a high Quality Novy-Marx ratio generated significantly higher average returns than less profitable companies in spite of them, on average, having a higher price to book ratio (more expensive) and higher market values. Because value (low price to book) and profitability (high Quality Novy-Marx ratio) strategies’ returns are negatively correlated (the one goes up when the other goes down), the two strategies work very well together. So much so that Professor Novy-Marx in the paper suggests that value investors can capture the full high-quality outperformance without taking on any additional risk by adding a high quality strategy to an existing value strategy. If you do this he found that this reduces overall portfolio volatility, in spite of it doubling your exposure to the stock market. We also tested it We of course also wanted to test if the Quality Novy-Marx ratio works on the European stock markets. Our back test (on European companies) over just less than 12 years from July 2001 to March 2013 came up with the following result: Source: Quant-Investing.com 1 Quintiles 2 Compound Annual Growth Rate ( OTCPK:CAGR ) As you can see the results are (apart from Q1 to Q2) linear, which means as you move from low-quality companies (Q5) to high-quality companies (Q1) returns increase every time. Also high quality companies (Q1) did substantially better than low-quality companies (Q5). This clearly shows that the Quality Novy-Marx ratio is a very good ratio to add to how you search for investment ideas. Substantially outperformed the market High-quality companies also substantially outperformed the index. The STOXX Europe 600 index over the same period had a compound annual growth rate of -0.82%, worse than even the worse quintile, most likely because of the banks being included in the index (not in the back test universe because you cannot calculate the Quality Novy-Marx ratio for them). In summary From these two back tests you can see that adding quality companies, defined as companies with high gross profits to total assets can definitely add to your investment returns. We have not tested it but Professor Novy-Marx mentions that if you are a value investor, quality companies have the ability to increase your returns and decrease the volatility of your portfolio. But if you add this quality ratio to your screens, you will find companies that are not undervalued, which is something that value investors will have to get used to. Where can you find it? In the screener you can select the gross income ratio (called Gross Margin (Marx)) as a ratio in one of the four sliders as shown below. Or you can select the Gross Margin (Marx) as a column in your screen which will allow you to filter and sort the Gross Margin (Marx) values.

Are Multi-Asset Funds A Threat To The Fund Industry?

By Detlef Glow The chase for yield by all kinds of investors has driven up the popularity of so-called multi-asset funds, since the funds promise to be widely diversified and therefore able to generate returns from all kinds of assets. In a number of cases the promise also extends to all kinds of market conditions, since some of the funds have the ability to use shorts or so-called market-neutral strategies. With regard to the investment objectives of multi-asset funds, these funds can be considered as really actively managed funds. That mixed- or multi-asset funds are privileged products for European investors is shown in the impressive inflows these funds have been able to gather. Asset allocation funds were not only the best selling fund sector for 2013 (+€61.6 bn), they also led the table for the first 11 months of 2014. In this period asset allocation products gathered €63.3 bn, far ahead of the second and third best selling sectors: mixed-asset conservative (+€27.9 bn) and bonds EUR (+€27.5 bn). The strong inflows into the multi-asset sector, combined with the fact that more and more fund promoters are launching multi-asset products to benefit from this trend, have raised questions and concerns about multi-asset products. One of these questions is whether all of these new managers are able to handle multi-asset portfolios, especially in tough times. Will these managers be able to meet the expectations of their investors in bear markets? The fear behind this question is linked to the negative image of the fund industry that stemmed from a number of absolute return funds failing to meet their goals during the 2008 financial crisis. From my point of view this is a valid concern: some managers may not be able to handle rough markets. They might not be experienced in the use of shorts, or they may not have the right risk management tools in place. Another point of concern is that some asset managers try to run their multi-asset portfolios with small teams to cover a large number of asset classes, or they are managing these portfolios in addition to other portfolio management tasks. In this regard, investors should make sure the fund management team of their fund is focused on the multi-asset portfolio and has enough resources to handle all the asset classes in the portfolio. The second major concern I have heard often in recent months is about fund flows. Since multi-asset products seem to have been the investment of choice of both institutional/professional and private investors in the past two years, some observers state that the flows might have reached their peak. Investors may start to pull out their money from these funds, which could lead to major outflows and therefore disruptions in some asset classes. I do not think that private investors will stop investing in multi-asset products as long as the funds fulfill their investment objectives and the goals of the investors. But it looks a bit different on the institutional side. New regulations such as Solvency II, with its high reporting standards, may cause some outflows from mutual funds, regardless of whether the fund promoters are able to deliver holdings data and other statistics on time. Another reason for outflows might be because asset managers are using multi-asset funds instead of buying the single building blocks and building multi-asset portfolios of their own. That would be the only way for them to have their asset allocation fully under control. From my point of view both concerns are valid; institutional outflows could easily offset inflows, which might cause outflows from the asset allocation sector. Even so, I would not expect any major disruptions in the utilized asset classes from this, since major outflows are unlikely to happen from one day to the next. In addition, I don’t think all the institutional investors who have bought multi-asset funds are able to manage this kind of portfolio in-house and therefore need an external manager to participate in these broadly diversified investment strategies. I would assume some questions and concerns around multi-asset funds are valid, but as long as at least the major funds in this market segment continue to deliver on their investment objective, the fund category is not a major threat for the European mutual fund industry. From my point of view, the major risk for the fund industry would be if one of the top-selling funds in this segment fails to deliver on its investment objective or faces major losses during a crisis. That would once again damage the reputation of the fund industry, which might then irrevocably lose investors’ trust. The views expressed are the views of the author, not necessarily those of Thomson Reuters.