IJJ - IJJ: A Good All-Purpose Mid-Cap ETF

2023-07-06 11:36:13 ET

Summary

• iShares S&P Mid-Cap 400 Value ETF picks and weighs mid-cap stocks based on value and growth metrics.
• It is well-diversified across sectors and holdings, but valuation metrics are underwhelming.
• It has beaten the mid-cap benchmark by a short margin since inception.
• I compare it to close competitors.

This article series aims at evaluating ETFs (exchange-traded funds) regarding past performance and portfolio metrics. Reviews with updated data are posted when necessary.

Strategy and portfolio

iShares S&P Mid-Cap 400 Value ETF ( IJJ ) started investing operations on 7/24/2000 and tracks the S&P Mid-Cap 400 Value Index. It has 303 holdings, a 12-month trailing yield of 2.07%, a total expense ratio of 0.18%.

As described by S&P Dow Jones Indices, S&P 400 constituents are ranked in Value and Growth styles using three valuation ratios and three growth metrics. The valuation ratios are book value to price, earnings to price and sales to price. By construction, 33% of the parent index constituents exclusively belong to each style, and 34% belong to both styles. The Value subset serves as S&P 400 Value Index and is rebalanced annually. It is capital-weighted, with an adjustment for constituents belonging to both styles. For example, a company with a Value rank better than its Growth rank is given a larger weight in the Value Index than in the Growth Index.

The portfolio’s aggregate valuation metrics are underwhelming: the price/earnings and price/cash flow ratios are not significantly lower than for the parent index S&P Mid-Cap 400, represented in the next table by the iShares Core S&P Mid-Cap ETF ( IJH ). Nonetheless, the price/book and price/sales ratios look better.

Source: Fidelity

The top 3 sectors are industrials (19.9%), financials (17.2%) and consumer discretionary (17.2%). The sector breakdown is not much different from the mid-cap benchmark, except that IJJ almost ignores energy. Compared to the parent index, it moderately overweights financials, consumer discretionary and real estate.

The portfolio includes 302 stocks. The top 10 holdings, listed in the next table with valuation ratios, represent 8.5% of asset value. The heaviest position weighs 1.3%, so risks related to individual companies are very low.

Ratios: Portfolio123

Competitors

IJJ has two direct competitors tracking the same underlying index: the SPDR S&P 400 Mid Cap Value ETF ( MDYV ) and the Vanguard S&P Mid-Cap 400 Value ETF ( IVOV ). The next table compares their assets under management, liquidity, fees and age.

The next chart compares total returns of the three funds since IVOV inception. IJJ has lagged IVOV by about 3% and beats MDYV by about 6%. These differences, mostly due to tracking errors, are insignificant in annualized return.

Performance

Since 8/1/2000, IJJ has outperformed the parent index ('IJH') by one percentage point in annualized return (see next table). The risk measured in drawdown and standard deviation of monthly returns (volatility) looks slightly higher for the value fund.

Data calculated with Portfolio123

In the last 3 years, IJJ has beaten IJH and another mid-cap value fund tracking a different index: the iShares Russell Mid-Cap Value ETF ( IWS ).

Compari son with my Dashboard List model

The Dashboard List is a list of 60 to 80 stocks in the S&P 1500 index, updated every month based on a simple quantitative methodology. All stocks in the Dashboard List are cheaper than their respective industry median in Price/Earnings, Price/Sales and Price/Free Cash Flow. An exception in utilities: the Price/Free Cash Flow is not taken into account to avoid some inconsistencies. Then, the 10 eligible companies with the highest Return on Equity in every sector are kept in the list. Some sectors are grouped together: energy with materials, communication with technology. Real estate is excluded because these valuation metrics don't work well in this sector. I have been updating the Dashboard List every month on Seeking Alpha since December 2015, first in free-access articles, then in Quantitative Risk & Value.

The next table compares IJJ since 8/1/2000 with the Dashboard List model, with a tweak: here, the list is reconstituted once a year to make it comparable with a passive index.

Past performance is not a guarantee of future returns. Data Source: Portfolio123

The Dashboard List outperforms IJJ by almost 2 percentage points in annualized return. However, ETF performance is real, whereas the list simulation is hypothetical.

Price to Book: a risky concept of value

I like the idea of mixing various ratios to rank value stocks. However, I think most value indexes doing so have two weaknesses, and IJJ is no exception. The first one is to classify all stocks on the same criteria. It means the valuation ratios are considered comparable across sectors and industries. Obviously, they are not: my monthly dashboard here shows how valuation and quality metrics may vary across sectors. A few ETFs have a more sophisticated approach, like Fidelity Value Factor ETF ( FVAL ), reviewed here , and some actively managed value funds.

The second weakness comes from the price/book ratio (P/B), which adds some risk in the strategy. Historical data show that a large group of companies with low P/B has a higher volatility and deeper drawdowns than a same-size group with low price/earnings, price/sales or price/free cash flow. The next table shows the return and risk metrics of the cheapest quarter of the S&P 500 (i.e., 125 stocks) measured in price/book, price/earnings, price/sales and price/free cash flow. The sets are reconstituted annually between 1/1/2000 and 1/1/2023 with elements in equal weight.

Data calculated with Portfolio123

This explains why I use P/FCF and not P/B in the Dashboard List model.

Takeaway

Constituents of iShares S&P Mid-Cap 400 Value ETF are picked and weighted based on value and growth metrics. The portfolio is well-diversified across sectors and holdings, but valuation metrics are underwhelming. IJJ has two competitors tracking the same underlying index: MDYV and IVOV. They are equivalents for long-term investors, but MDYV shows somewhat larger tracking errors. IJJ has higher trading volumes, therefore it is a better instrument for swing trading and tactical allocation. For example, it may be part of a strategy switching between value and growth style, or between large and mid-cap size, depending on relative strength indicators. Since inception, IJJ has outperformed its parent index, the S&P Mid-Cap 400, by a thin margin of one percentage point in annualized return. IJJ is a good all-purpose mid-cap value ETF, but the underlying index has two shortcomings in my opinion: ranking stocks regardless of their industries, and relying too much on the price/book ratio.

For further details see: