The quality factor succumbed to broader market weakness. In fact, the often-durable style was among the worst-performing investment styles.
The good news is that’s a rarity, and the even better news is that quality stocks are regaining some strength to start 2023. The factor’s resurgence could stoke renewed interest in exchange traded funds such as the Invesco S&P 500 Quality ETF (SPHQ ).
SPHQ follows the S&P 500 Quality Index, which is a collection of quality names from the parent benchmark. The fund’s long-term track record, attractive valuation and volatility traits, and overall DNA could make it an interesting consideration for investors in 2023, particularly if quality stocks accrue more momentum.
“In fact, the Morningstar US Quality Factor Index has gone from worst to first, with an 8.5% return in 2023 as of February 22nd after a 24.4% decline in 2022. Quality has well outpaced the 4.5% return of the broad US equity market in 2023 as reflected by the Morningstar US Target Market Exposure Index,” according to Morningstar.
Year-to-date, quality is beating other factors, including low volatility, size, value, and yield. Confirming there’s an aura of exclusivity that comes along with the designation, SPHQ is home to just 101 stocks. However, the ETF does an admirable job of balancing growth and value traits, as more than 48% of its components as considered “blend” equities.
How index providers and ETF issuers define quality varies on a firm-by-firm basis, but one of the standard hallmarks is companies that either sport low debt levels or are working to get there. Indeed, the financial leverage ratio is one of the metrics employed by SPHQ’s underlying index. That’s a relevant trait at a time when interest rates are high, credit markets are increasingly selective, and investors are demand action when it comes to debt reduction.
“It’s been a tale of two markets when examining the US equity factor landscape since the start of the year. Quality has certainly been a standout in 2023, while it was the worst performer in 2022, a challenging year for the US equity market,” added Morningstar’s Alex Bryan.
As of January 31, SPHQ carried a Morningstar five-star rating. The $4.18 billion ETF has an annual expense ratio of 0.19%, or $19 on a $10,000 position.
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