2023-05-23 09:40:38 ET
Summary
- The Fairlead Tactical Sector Fund ETF systematically applies technical analysis to allocate between sector ETFs and defensive assets.
- The fund has been defensive since inception, currently holding 85% of assets in treasuries and gold.
- The strategy design does not handle situations where both bonds and equities decline (like in 2022).
- Furthermore, I have some concerns regarding the fund's sector allocation, as technology and communication services have been the clear sector leader since late 2022.
- I personally would like to see more performance and allocation history before I can get comfortable with the Fairlead Tactical Sector Fund ETF strategy.
The Fairlead Tactical Sector ETF ( TACK ) is an actively managed fund that follows a "systematic technical model" that determines the proper tactical allocation between sector ETFs and defensive assets.
As a hybrid technical / fundamental analyst myself, I am always curious in following how technical analysis is applied in the funds management space. To my knowledge, there have not been any funds solely devoted to using technical analysis as the main investment approach. So I was pretty excited when I came across the TACK ETF that relies solely on systematically applying technical analysis in selecting investments.
However, after reviewing the fund structure and performance, I came away mildly disappointed. I believe there is a serious flaw in the fund's investable universe. I also question how the technical analysis is applied, as the fund has been defensively positioned since day 1.
For me personally, I would be hesitant to commit capital to the TACK ETF until I can see more performance and allocation history to get comfortable with the strategy.
Fund Overview
The Fairlead Tactical Sector ETF is an active exchange-traded fund ("ETF") that uses a systematic technical analysis approach to manage a fund-of-fund's portfolio of sector ETFs and alternative assets.
The TACK ETF is managed by Katie Stockton , frequent guest of CNBC and the founder and managing partner of Fairlead Strategies. She was formerly the Chief Technical Strategist for BTIG and Chief Market Technician at MKM Partners.
The TACK ETF has $228 million in assets and charges a 0.70% gross expense ratio (0.59% for management fees plus 0.11% for underlying ETFs).
TACK Strategy
The TACK ETF uses a systematic approach to technical analysis that assesses 14 ETFs for inclusion in the fund (Figure 1). These ETFs are actively traded with large assets under management, or AUM, and low fees. The TACK ETF typically hold 5-8 ETFs at a time. The primary goal of the TACK ETF is to take advantage of sector leadership while protecting against drawdowns through asset allocation .
For example, if the market is deemed "risk on," the TACK fund may invest equal weights into the 8 leading sectors of the market. However, if markets turn "risk off," the fund may replace individual sector weights with the "risk off' assets of treasuries and gold (Figure 2).
The primary source of "alpha" for the TACK ETF is in the fund's sector exposures that can differ materially from that of the S&P 500 Index (SP500), depending on the manager's technical analysis system. The targeted individual sector weight is 12.5% (i.e. 1/8th of the portfolio during "risk-on" phases) while each defensive alternative asset is capped at 33% (i.e., in a prolonged bear market, the fund will be 99% invested in defensive assets). The TACK ETF is rebalanced monthly.
Portfolio Holdings
As of May 19, 2023, the TACK ETF is very defensively positioned, with 62% of the assets assigned to treasuries, 23% in gold, 12% in energy stocks, and 3% in cash (Figure 3).
Investors should note that TACK's positioning can change pretty dramatically. For example, at April 30, 2022, the fund was defensively positioned, but still held 75% in equities (Figure 4).
However, by October 31, 2022, the fund had jettisoned most of its equity holdings and moved to more or less the current exposure, holding only treasuries, gold, and energy stocks (Figure 5).
Returns
The TACK ETF was only incepted on March 22, 2022, so it does not have a long track record of returns for analysis. From the limited data set, the TACK ETF has outperformed its peers, ranking first quartile in the Morningstar Tactical Allocation category, with 1Yr returns of 0.7% (Figure 6).
Distribution & Yield
The TACK ETF paid a nominal trailing 12 month distribution of $0.15 / share or 0.6%. TACK's distribution is paid quarterly.
What Happens When Bonds Don't Hedge?
The main flaw I can see with TACK's strategy is when historical correlations break down and treasury bonds do not provide the desired "risk-off" protection, like what happened in 2022.
At one point during 2022, the TACK ETF had declined by over 10% from its inception date, as long-term treasuries failed to provide "risk-off" protection (Figure 7).
Unlike the past few decades, 2022 was characterized by the simultaneous decline in long-term bonds and equities, as the main driver of both was the Federal Reserve's desire to normalize interest rates to fight inflation. In that situation, TACK's limited investable universe (11 sector ETFs plus short-term treasuries, long-term treasuries, and gold), meant that there was very little places to hide.
However, fortunately, by late 2022, the Fed had indicated a slowing of its interest rate increases, which reduced the pressure on long-term treasuries and the TACK ETF was able to recover somewhat. Overall, the TACK ETF returned -1.0% since inception to April 30, 2023, outperforming the S&P 500 Total Return Index, as shown in figure 7 above.
How Is Trend Determined?
Another criticism I have of the TACK ETF is how the manager defines risk-on vs. risk off and up-trend vs. down-trend. While TACK's defensive positioning had been the right call in 2022 (albeit hampered by the investable universe), since bottoming in early October, the S&P 500 Total Return Index has rallied close to 18%, outperforming TACK's 8.5% bounce (Figure 8).
More importantly, long duration sector ETFs like the Technology Select Sector SPDR Fund ETF ( XLK ) and the Communication Services Select Sector SPDR Fund ETF ( XLC ) have rallied 30.1% and 26.4%, respectively, through April 30, 2023.
Speaking from a purely technical analysis point of view, the XLK and XLC ETFs have already exited their downtrends and are in new uptrends (broken downtrend from early 2022 peak; rallied above long-term 200D moving average; rising 50D and 200D moving averages, successful re-test of moving averages, etc.), so why does TACK have no allocations to either (Figure 9, 10)?
There could be very valid fundamental reasons not to invest in either sectors at the moment, but technical analysis suggest XLK and XLC are much stronger sectors than the fund's current sector allocation, the Energy Select Sector SPDR Fund ETF ( XLE ).
Conclusion
The TACK ETF is a novel active ETF that uses technical analysis to determine the allocation between sector ETFs and defensive assets.
So far, Fairlead Tactical Sector Fund ETF has outperformed its tactical peers with its defensive positioning since inception. However, there is a fundamental flaw in the strategy as its investable universe do not handle the case where both equities and bonds decline due to rising interesting rates. Moreover, I have some concerns regarding how the Fairlead Tactical Sector Fund ETF manager determines trend, as the technology and communication services sectors are in clear technical uptrends and yet do not show up in the sector allocation.
Personally, there is not enough performance and allocation history for me to get comfortable with the fund's strategy. I am putting Fairlead Tactical Sector Fund ETF on my watchlist to observe how the manager adjusts the portfolio given changing market developments.
For further details see:
TACK: Interesting Fund Concept But Need More Data