Post-recessionary periods often present an excellent investment environment for cyclical sectors, while non-cyclical corners of the economy tend to lag behind. Even after last Friday’s Goldman nightmare, financial ETFs are soaring higher in 2010, followed closely by retail and transportation funds. Meanwhile, energy and utility ETFs have shown significant weakness in recent months and have lagged the broad market. With big gaps developing between the various sector SPDRs (see the figures here), it is clear that picking the right industry can have a huge impact on a portfolio’s total return. Some investors like to make a call on one or two sectors they expect to lead or lag, but few go through the process of analyzing all every industry to determine which deserve the highest weightings.
There are a few ETFs available that do just that: attempt to classify stock sectors and industries in order to determine which have the highest price appreciation potential and which have the dimmest outlooks. One such option is the Value Line Industry Rotation ETF (PYH). This ETF uses proprietary information from the well-respected Value Line investment research company in order to obtain its equity allocations by investing in 50 of the most timely industries, which hopefully will allow investors to capture excess returns.
The fund tracks the Value Line Industry Rotation Index, which is comprised of 75 stocks chosen based on both their Value Line “Timeliness” rank and their value line “industry timeliness” rank. The index is designed to first rank all industries represented in the Value Line universe by their industry timeliness, and then select the highest ranked stocks for timeliness from each of the top 50 highest rated industries, as well as the second highest timeliness-ranked stock from each of the 25 highest rated industries. This gives the index its 75 components, each of which is given an approximately equal weighting. Given the nature of the index, the rebalancing frequency is obviously important, since the “timeliness” of industries and stocks is constantly in flux; the benchmark to which PYH is linked is rebalanced quarterly using the same methodology.
PYH is currently overweight in the consumer sectors, with 28.8% going to consumer discretionary stocks and 12.8% going towards consumer staples firms. Information Technology, at 17.9% also makes up a substantial portion of the fund’s total assets. Meanwhile, underweight sectors include utilities, which only has one company in the fund which makes up 1.2% of the total assets, and energy, which makes up 5% of PYH. The fund has a definite slant towards mid and small cap securities, which can be seen by its low average market capitalization of just $10 billion. In fact just just 23% of the fund is considered to be in large cap firms. As a result, many of the fund’s top holdings are not household names; TRW Automotive Holdings Corp. (1.66%), Veeco Instruments Inc. (1.63%), Ashland Inc. (1.57%) are the current top three holdings. It’s interesting to notw that the fund has a P/E ratio of just about 16, despite having more than three-fourths of assets classified as growth equities.
Returns and Fees
So far in 2010, PYH has turned in an impressive performance, gaining outperformed the market posting a gain of just over 14% year-to-date. By comparison, SPY is up about 8.6% during that period and the iShares Russell 3000 Growth Index Fund (IWZ) is up about 8.4%. Not surprisingly, PYH’s alpha-hunting methodology comes at a slightly higher price than traditional cap-weighted ETFs, as this ETF charges 0.60% for expenses. It’s worth noting that the average daily volume is relatively light–about 11,000 shares–so use of a limit order is probably a good idea (see Ten Common ETF Mistakes).
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Disclosure: no positions at time of writing.