EC Where’s The Alpha?

A different angle on small caps is taken by the iShares Edge MSCI Min Vol USA Small-Cap ETF (SMMV). Here, small -caps are built into a portfolio optimized for minimal correlation and volatility.

Lastly, finance—this time, pure finance—makes another appearance through the iShares U.S. Financial Services ETF (IYG). IYG invests in a market-cap-weighted portfolio of stocks representing U.S. investment banks, commercial banks, asset managers, credit card companies and securities exchanges.

Factors

The table’s three Fama-French factors may require some explication. Mkt-RF (the Market minus Risk-Free premium) represents the excess return realized by the domestic stock universe over the one-month Treasury bill rate. SmL (Small minus Large) is the premium of small-cap value, neutral and growth portfolios over their large-cap analogs, and HmL (High minus Low) is the differential return of value stocks, large and small, over growth stocks.

The first thing worth noting is the difference between the benchmark portfolio—the iShares Core S&P 500 ETF (IVV)—and the other funds’ SmL exposures. A positive number signifies a lean toward small-cap stocks; a negative reading connotes large-cap dominance. Clearly, IVV skews toward large stocks. All of the alpha producers tip in the opposite direction. Not surprisingly, the micro-cap FDM portfolio tilts most dramatically to the small side.

It’s more a mixed bag on the value front. On average, the five alpha producers clocked a rather growth 0.19 exposure to the HmL factor. There’s wide dispersion in the exposures, though. The micro-cap and financial portfolios exhibit exceptionally high-value stats, while the volatility-managed small-cap fund and the IVV benchmark are virtually neutral.  

So, what’s the takeaway? Just this: Over the past three years, high alpha coefficients have been associated with small-cap exposure. That’s not to say that small-cap exposure is alpha, however. There’s plainly a lot more to this idiosyncrasy business than that.

Fixed income ETFs

When we turn our attention to fixed income portfolios, we’re obliged to consider a different set of factors. The value and size factors used in equity analysis are meaningless, so a two-factor model based on term and credit risk premiums is employed instead. The term factor represents the difference between long-term Treasury bonds and short-term T-bills. Credit risk exposure is gauged against the spread in long-term corporate obligations versus long-term Treasurys.

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Disclosure: None.

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