January 23, 2014

Market Vectors Rolls Out Factor-Based ETFs

The four new ETFs track MSCI indexes and focus on quality and quality dividends in international and emerging market equities

Market Vectors ETF Trust said early Thursday that it launched four new exchange-traded funds (ETFs) powered by factors, or investment screens, that track companies according to their return on equity, leverage, earnings growth and dividends.

The new ETFs are the Market Vectors MSCI International Quality ETF (QXUS), Market Vectors MSCI Emerging Markets Quality ETF (QEM), Market Vectors MSCI International Quality Dividend ETF (QDXU), and Market Vectors MSCI Emerging Markets Quality Dividend ETF (QDEM).

“Quality matters. Quality as an investment factor has historically outperformed broad international and emerging markets equities with relatively lower volatility over long time periods, but until now, a quality — focused, factor — based approach has usually been accessible only through active strategies,” said Amrita Bagaria, international-equity ETF product manager with Market Vectors, in a press release.

“We have heard the concerns of investors who understand that you need to be selective and find a way to identify quality stocks, because you don’t necessarily want to hold every single company when investing in international or emerging markets,” Bagaria explained.

QXUS’s gross expense ratio is 0.69%, and its net expense ratio is 0.45%. QEM has a gross expense ratio of 0.74% and a net expense ratio of 0.50%. QDXU’s gross expense ratio is 0.67% and its net expense ratio is 0.45%. QDEM has a gross expense ratio of 0.73% and a net expense ratio of 0.50%.

The net expense ratios for all four funds are capped contractually until at least Feb. 1, 2015, according to Market Vectors.

“Holdings in both indexes are screened for historically high return on equity [ROE], stable annual earnings growth and low financial leverage,” said Diana Tidd, managing director and head of the MSCI Index Business in the Americas, in a statement. “Our research suggests that the Quality growth companies have high ROE, low financial leverage and stable earnings that are uncorrelated with the broad business cycle and may provide diversification benefits in portfolio allocation.”

Forces Behind Factoring

iShares recencenty introduced factor-based ETFs. The iShares MSCI USA Quality Factor ETF (QUAL), for instance, now has about $290 million in assets. According to Morningstar, QUAL had a price return of 11.7% in the fourth quarter vs. 10.5% for the S&P 500.

In a 2013 report on factor-based investment, two experts at State Street Global Advisors explained that issues like market instability, lowered return expectations and higher return requirements have put traditional portfolio construction approaches under “intense scrutiny.”

“Factor-based frameworks that hold the promise of working better during periods of instability and crisis, have begun to gain traction,” wrote Stacy Marino and Rick Thomas of SSGA. “The main advantages of a factor-based approach are a better quantification of underlying risk exposures and an ability to directly benefit from factor payoffs. Its main limitation is the same limitation found in a more traditional approach.”

In other words, factor-based portfolios rely on the traditional asset classes and hence the returns they produce, they note. But such an approach may lead to well-thought-out asset allocation, “one that better aligns an investment plan’s objectives and risk tolerances with reasonable asset class exposures.”

Overall, the SSGA experts conclude, using a factor-based approach “forces an investment committee to think about the true sources of risk and return, and it opens a framework to harvest return premiums from unconventional sources.”

The current level of assets held by investors across the Market Vectors ETF product line is $22.1 billion. The product sponsor is Van Eck Global.

“By combining the search for dividend yield in international and emerging markets with MSCI’s quality screens, investors will be able to add exposures that may potentially generate excess returns and benefit their portfolios in down markets,” Bagaria said.

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