Direxion, one of the largest issuers of leveraged and inverse ETFs, announced the launch today of a pair of non-leveraged funds that will utilize insider sentiment indicators to achieve exposure to domestic equities. The new ETFs will seek to replicate indexes that filter the universe of U.S. equities using quant-based strategies to eliminate stocks with aggressive accounting. The methodology behind the new ETFs will analyze public company filings related to frequency of trades, purchases of stock and increases in holdings by “insiders,” as well as positive earnings analysis. The companies with the highest “insider sentiment” scores are included in the funds.
The two new ETFs are:
- Direxion All Cap Insider Sentiment Shares (KNOW): This ETF is linked to the Sabrient Multi-Cap Insider/Analyst Quant-Weighted Index, which consists of 100 stocks that are included in the S&P 1500. The underlying index is “quant-weighted,” meaning the top 50 stocks are weighted exponentially (the top stock represents 2.6% of the index), while the bottom 50 stocks are equal-weighted, with each representing 0.35%.
- Direxion Large Cap Insider Sentiment Shares (INSD): This ETF is linked to the Sabrient Large-Cap Insider/Analyst Quant-Weighted Index, which includes 100 stocks from the S&P 500 Index. This benchmark uses a similar “quant-based” weighting methodology.
Both new ETFs will charge an expense ratio of 0.65%.
The methodology behind the new ETFs is generally straightforward; the indexes utilize public information to evaluate “insider” activity at domestic companies [see Alternative ETFs}. Because sales or purchases of a company's stock by certain employees or directors is required to be reported via SEC filings, it is possible to assess the extent to which "insiders" are either stockpiling or unloading company stock. Generally, large purchases by employees or directors can be interpreted as a bullish sign; those individuals closest to the company are expanding their own positions because they believe the future is bright. On the other side of the coin, massive sell-offs from insiders might be an indication of deteriorating prospects--or at least deteriorating morale within the organization.
While the name of the new ETF resembles the white collar crime that has sent some high profile investors to jail, there's nothing illegal about the transactions that are evaluated to determine companies with strong insider sentiment. It's fairly common for company employees or directors to both purchase and sell stock of their employer--as long as they aren't aware of any material, non-public information that could potentially move the share price. Trading activity is often suspended around major events such as earnings announcements.
The underlying indexes also consider changes in earnings estimates published by Wall Street analysts, a metric that reflects changes in sentiments of professionals who closely follow a company's outlook.
The insider ETFs can be viewed as both alternatives and complements to "plain vanilla" cap weighted products that offer broad exposure to U.S. equity markets. While there will often be considerable overlap, the unique methodology employed by INSD and KNOW has the potential to result in different sector exposure and a more targeted basket of securities. In other words, the strategy has the potential to generate alpha while still offering exposure to an asset class that is at the core of many long-term portfolios [see Tax Loss Harvesting With ETFs: 6 Ideas To Lower Client Liabilities].
“We are committed to providing advisors and investors with the opportunity to invest in buy-and-hold equity strategies that allow them to differentiate themselves within the marketplace” said, Ed Egilinsky, Managing Director and Head of Alternatives at Direxion. “Investors are always looking for ways to try and generate excess returns within their equity portfolios. These equity indices are unique in that they are not constrained by either style box or sector allocation limitations, as are the majority of typical equity investments.”
Insider ETF Track Record
Currently, Guggenheim offers an Insider Sentiment ETF (NFO) that is also linked to a Sabrient index. That ETF, which debuted more than five years ago, selects components from a broad universe of U.S.-listed securities. The performance of that fund highlights the potential for the methodology to generate excess returns; NFO is up about 103% over the last three years, making it one of the best performers in the All Cap Equities ETFdb Category over that time period. The Russell 3000 Index Fund (IWV) has added only about 58% during the same period.
Disclosure: No positions at time of writing.