Summary
- I am highly critical of the usefulness of traditional stock-bond allocation ETFs. AOM is no exception.
- This ETF is more like an excuse to gather assets than a vehicle for investors seeking alpha.
- I assign a Sell rating to AOM ETF. There are better ways to pursue a moderate investment objective.
By Rob Isbitts
[[AOM]] is one of a set of four ETFs offered by industry giant iShares for about the past 15 years. Similar to target date mutual funds, these ETFs aim to deliver what the issues consider to be a target asset allocation for investors with a certain type of risk tolerance. In the case of AOM, that is a “Moderate Risk” allocation. In asset mix terms, that translates to a 40% stock and 60% bond allocation.
I see two problems with the approach of this ETF and its 3 siblings, which target Conservative, Growth and Aggressive allocation objectives. First, the role of bonds in a so-called “balanced” portfolio has changed and may not change back for a while. Bonds used to be predictable and profitable. Now, they are essentially another type of stock, thanks to the market’s response to a new era of higher interest rates. Those rates are likely to fluctuate wildly in the coming years, and that transition from what bonds were to what they are is a challenge I don’t think many investors (especially retirees and pre-retirees) have quite accounted for yet.
The other problem is that AOM doesn’t do anything that most investors can do themselves. One of the great things about ETFs is that they are highly-transparent vehicles. You can see what they own every day. That look-through aspect means that ETFs that are constructed too simply, and add on unnecessary fees, are just not very useful. Unfortunately, nearly $1.4 billion in investor assets don’t see it that way. But I do, and so I am assigning a Sell rating to AOM.
Strategy
AOM invests across 8 iShares ETFs, making it an ETF-of-ETFs, the equivalent of a fund-of-funds in the mutual fund or hedge fund arenas. The goal is to achieve a moderate allocation that tracks the S&P Target Risk Moderate TR USD index, a 40% bond / 60% stock benchmark.
Holdings
Nearly 50% of AOM is invested in an iShares bond ETF that itself is about 40% allocated to government bonds, with the rest invested in bonds that have some degree of credit risk. So, about 20% of AOM is in government bonds. Another 22% is invested in an iShares S&P 500 ETF, and 13% is in an iShares International stock ETF. Those 3 positions make up about 85% of AOM. The other 5 ETFs round out the portfolio with non-US bonds, mid cap and small cap stocks, and a tiny money market position.
ETF Grades
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Offense/Defense: Offense
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Segment: Multi-Asset
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Sub-Segment: Moderate
Technical Ratings
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Short-Term (next 3 months): D
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Long-Term (next 12 months): D
Rating scale: A = Excellent, B = Good, C = Fair, D = Weak, F = Poor
For a detailed description of MII's proprietary technical rating system, see disclosures at bottom of this report.
Strengths
I am a fan of Blackrock’s iShares unit, even if I am not a fan of AOM. The firm put ETFs on the map and offers several innovative and useful funds. Their backing is always a strength to me. In addition, this ETF does effectively target a 40%/60% stock bond portfolio. So, if an investor is drawn to that, AOM makes that happen. This ETF also pays a quarterly dividend, so shareholders get some cash distributed on a regular basis.
Weaknesses
This could be a very long list, but I’ll avoid getting too “preachy” about my long-standing criticism of the traditional stock-bond allocation mix. I’ve written plenty of articles in Seeking Alpha under Modern Income investor that cover my beliefs and the rationale for them, after 37 years in the investment industry trenches. Suffice it to say that expecting bonds to deliver the combination of decent yield and falling rates on a secular basis is asking for the near-ideal conditions for bond investors from 2009-2021 to resume. I think the way markets operate today has changed, thanks to media hype, social and otherwise, and a new batch of market influences that frankly don’t care what they are buying and selling. That includes index funds, high-frequency traders, day-traders, and others. This all conspires to make “traditional” stock-bond allocations very risky, if all you do is look back at past returns. To my disappointment, many investors are still doing that. There are spots in the market where one can get away with that, but I don’t think balanced portfolio allocation is one of them.
Add in the fact that iShares tacks on an additional 15 basis point fee to own this very transparent mix of other iShares ETFs that does not change very often, and I’d expect more pushback from the investment community. But iShares double-dipping appears to be as acceptable to the marketplace as it is in the hedge fund business, which is a mystery to me.
Opportunities
If I’m completely wrong about my concerns for balanced allocation ETFs, that should be positive for AOM. A new stock and bond bull market or even a stock bull market with interest rates staying steady from here, likely leads to decent returns from AOM’s asset mix.
Threats
However, the bond yield curve is “inverted,” with short-term rates well above long-term rates. That will be unwound at some point, and that could unleash a new phase of very negative returns for bonds with maturities beyond a handful of years. AOM has plenty of exposure to intermediate to long-term bonds, so it would be caught in that scenario. Then there’s the over-reliance on a historically top-heavy S&P 500 ETF. If those FAANG stock valuations ever come back to earth, AOM will bear the brunt of it. The mid cap and small cap stock exposure combined is only about 2%. FAANG stocks alone take up much more than that 2% weighing in AOM. I think that begs the question, why bother to “window dress” this ETF with such small positions that don’t make a difference in performance.
Conclusions
ETF Quality Opinion
The quality aspect of this ETF ends with the issuer, iShares. There’s plenty of quality there. But this report is about AOM, not its giant, iconic issuer. As a former long-time investment advisor, I know firsthand that terms like “moderate allocation” sound great when discussed in an investment strategy session. But when an ETF like this one falls around 20%, as it did over a period of months during 2022, I just don’t see AOM as the ideal way to deliver moderate risk in an ETF portfolio form.
ETF Investment Opinion
I rate AOM ETF a sell, and encourage investors to consider other ways to address the moderate allocation objective. That includes more tactical management, ETF arbitrage strategies, less reliance on long-term bonds (for now) and development of a wider toolbox for the equity side of the portfolio, rather than focusing so much effort on S&P 500 ETFs.
Modern Income Investor's proprietary technical rating system was created by the firm's founder, Rob Isbitts, a chartist for more than 40 years. The ratings emphasize risk-management, and the belief that while any investment can appreciate in price at any time, each investment carries a different level of potential for major loss. The balance of reward and risk is calculated each night for thousands of securities, using a formula that analyzes price trend, strength of that trend and key price levels. It analyzes data over multiple time frames to produce a short-term rating (looking 3 months out) and a long-term rating (looking 12 months out).
For further details see:
AOM: This Asset Allocation ETF Is Not Even Moderately Interesting