2023-04-25 08:00:00 ET
Summary
- Invesco S&P MidCap 400 Pure Value ETF tracks a mid-cap value index based on valuation and growth metrics.
- About 36% of asset value is in consumer discretionary.
- Total return since inception is similar to a mid-cap benchmark, but it has outperformed in the last 3 years.
- It shows a higher risk regarding volatility and drawdowns.
- We discuss two shortcomings of value indexes.
This ETF - exchange-traded fund - article series aims at evaluating products regarding the relative past performance of their strategies and quality metrics of their current portfolios. As holdings and weights change over time, updated reviews are posted when necessary.
RFV strategy and portfolio
Invesco S&P MidCap 400 Pure Value ETF ( RFV ) has been tracking the S&P MidCap 400 Pure Value Index since March 2006. It has 73 holdings, an expense ratio of 0.35% and a 12-month distribution yield of 1.98%.
As described by S&P Dow Jones Indices , constituents of the S&P MidCap 400 are assigned two scores for value and growth. The value score is based on three ratios: book-value-to-price, earnings-to-price, and sales-to-price. The growth score is based on the three-year sales per share growth, the three-year earnings yield change, and the 12-month share price return. The S&P MidCap 400 Pure Value Index selects stocks with the best value score, excluding those demonstrating both value and growth characteristics. Constituents with higher value scores receive greater weights.
In this article, RFV will be compared to the iShares S&P Mid-Cap 400 Value ETF ( IJJ ) and the iShares Core S&P Mid-Cap ETF ( IJH ).
Regarding the usual valuation ratios, RFV is much cheaper than IJJ, which is cheaper than IJH:
RFV | IJJ | IJH | |
Price/Earnings TTM | 7.86 | 12.81 | 13.78 |
Price/Book | 1.12 | 1.66 | 2.17 |
Price/Sales | 0.39 | 0.89 | 1.16 |
Price/Cash Flow | 6.56 | 10.17 | 10.07 |
Source: Fidelity.
Compared to IJJ and IJH, RFV overweights massively consumer discretionary (36.3% of asset value), and to a lesser extent technology and materials. It underweights mostly consumer staples, utilities, real estate, communication, and ignores energy.
The top 10 holdings, listed in the next table with valuation ratios, represent 27.8% of asset value. The heaviest one weighs 3.53%, so risks related to individual companies are moderate.
Ticker | Name | Weight% | P/E ttm | P/E fwd | P/sales | P/Book | P/Net Free Cash Flow | Yield% |
Taylor Morrison Home Corp. | 3.53 | 4.32 | 6.86 | 0.53 | 0.93 | 3.59 | 0 | |
KB Home | 3.46 | 4.58 | 7.56 | 0.52 | 0.97 | 8.15 | 1.44 | |
Goodyear Tire & Rubber Co. | 3.26 | 15.05 | 10.67 | 0.14 | 0.56 | N/A | 0 | |
United States Steel Corp. | 3.09 | 2.79 | 7.21 | 0.31 | 0.64 | 3.78 | 0.80 | |
PVH Corp. | 2.75 | 29.45 | 8.66 | 0.61 | 1.11 | N/A | 0.17 | |
Cleveland-Cliffs, Inc. | 2.43 | 6.31 | 7.66 | 0.35 | 1.05 | 5.51 | 0 | |
Avnet, Inc. | 2.39 | 4.67 | 5.73 | 0.15 | 0.87 | N/A | 2.79 | |
Arrow Electronics, Inc. | 2.32 | 5.14 | 6.83 | 0.19 | 1.25 | N/A | 0 | |
Brighthouse Financial, Inc. | 2.31 | N/A | 2.93 | 0.35 | 0.50 | N/A | 0 | |
Lithia Motors, Inc. | 2.26 | 5.56 | 6.59 | 0.22 | 1.14 | N/A | 0.88 |
Since inception (03/01/2006), RFV beats IJJ by 50 bps in annualized return, and it is almost on par with IJH. Though, it shows a much higher risk in drawdown and volatility (standard deviation of monthly returns).
Total Return | Annual Return | Drawdown | Sharpe ratio | Volatility | |
RPV | 301.10% | 8.44% | -71.82% | 0.41 | 25.03% |
IJJ | 270.53% | 7.94% | -58.00% | 0.44 | 19.52% |
IJH | 306.69% | 8.53% | -55.07% | 0.48 | 18.51% |
Data calculated with Portfolio123.
In the last 3 years, RFV has beaten the two other funds by more than 45% in total return:
Comparing RFV with my Dashboard List model
The Dashboard List is a list of 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. After this filter, the 10 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 Invesco S&P MidCap 400 Pure Value ETF performance since inception with the Dashboard List model, with a tweak: the list is reconstituted quarterly to make it comparable to a passive index.
Total Return | Annual Return | Drawdown | Sharpe ratio | Volatility | |
RPV | 301.10% | 8.44% | -71.82% | 0.41 | 25.03% |
Dashboard List | 458.17% | 10.55% | -54.99% | 0.55 | 19.71% |
Past performance is not a guarantee of future returns.
The Dashboard List outperforms RFV by 2 percentage points in annualized return, and it looks safer regarding drawdowns and volatility. A note of caution: ETF performance is real, whereas the list is simulated.
Fundamental shortcomings
Most value indexes have two shortcomings in my opinion, and Invesco S&P MidCap 400 Pure Value ETF 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. Obviously they are not: my monthly dashboard here shows how 3 median valuation ratios may differ across sectors now and in historical averages.
The second issue 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 probability to hold value traps than a same-size group with low price/earnings, price/sales or price/free cash flow. Statistically, such a group will have a higher volatility and deeper drawdowns in price. 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.
Annual Return | Drawdown | Sharpe ratio | Volatility | |
Cheapest quarter in P/B | 8.54% | -81.55% | 0.35 | 37.06% |
Cheapest quarter in P/E | 10.71% | -73.62% | 0.48 | 25.01% |
Cheapest quarter in P/S | 12.82% | -76.16% | 0.47 | 34.83% |
Cheapest quarter in P/FCF | 15.32% | -74.77% | 0.61 | 27.03% |
Data calculated with Portfolio123.
This explains why I use P/FCF and not P/B in the Dashboard List model.
Takeaway
Invesco S&P MidCap 400 Pure Value ETF tracks a mid-cap value index based on three valuation metrics and three growth metrics. The "pure value" strategy overweights consumer discretionary, with 36% of asset value. RFV is almost on-par with the parent index S&P 400 IJH since 2006 and it shows a much higher risk in volatility and drawdowns. It has outperformed in the last 3 years.
Invesco S&P MidCap 400 Pure Value ETF may be especially useful in rotational strategies switching between value and growth and/or between large, mid and small caps. RFV is a good all-purpose mid-cap fund, but it suffers from two methodological weaknesses in my opinion: ranking stocks regardless of their industries, and relying too much on the price/book ratio.
For further details see:
RFV: Pure Value ETF Outperforming For 3 Years