The population of multi-factor exchange trade funds boomed in recent years and with that boom comes more questions from advisors regarding how to properly these products within client portfolios.
The U.S. Multi-Factor Model Portfolio, which is part of WisdomTree’s Modern Alpha series of model portfolios, is an excellent place to start.
“This model portfolio is designed for investors with a long-term horizon looking for exposure to a broad universe of U.S. equities primarily using factor focused ETFs. The selected ETFs provide certain factor tilts that have the potential to generate excess return relative to comparable cap-weighted benchmarks over longer-term holding periods,” according to WisdomTree.
This model portfolio features seven ETFs, including one product from outside the WisdomTree family of funds.
Mulling Multi-Factor Exposure
One of the pillars of the U.S. Multi-Factor Model Portfolio is the WisdomTree U.S. Earnings 500 Fund (EPS ). EPS seeks to track the price and yield performance, before fees and expenses, of the WisdomTree U.S. LargeCap Index.
With so much focus these days on the low volatility factor, EPS offers a different approach to that way of investing.
“As a point of comparison, as of mid-August a very popular ETF that tracks the performance of the S&P 500 Index currently trades at a price-to-earnings (P/E) ratio of ~24.9%. Another popular ETF that tracks the performance of the S&P 500 Low Volatility Index currently trades at a P/E ratio of ~23.3%—barely a discount for an Index that includes the hyper-valued mega-cap tech stocks,” notes Scott Welch, Chief Investment Officer of WisdomTree Model Portfolios.
EPS targets an earnings-weighted index that screen for positive cumulative earnings over their most recent four fiscal quarter period and assigns weights to components to reflect the proportionate share of the aggregate learning’s each company generated, so those with greater earnings have larger weights. That gives the fund value and quality tilts.
A prime benefit of EPS is that it has factor breadth, meaning that it doesn’t compel advisors to factor time, which is an endeavor with a degree of difficulty on par with selecting individual stocks.
“Finally, let’s remind ourselves of the importance of factor diversification well as asset class diversification when attempting to build a truly diversified portfolio. Just like asset classes, risk factors rotate in and out of favor,” notes Welch.
Consider this: since 2002 no individual investment factor has been the best-performing factor in two consecutive years.