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Why strategic-beta ETFs can open doors for investors

Nicki Bourlioufas  |  01 Sep 2016Text size  Decrease  Increase  |  

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In addition to having lower costs compared to many actively managed funds, strategic-beta ETFs can also smooth volatility and provide much-needed income.


In recent times, there has been an avalanche of "smart-beta" or "strategic-beta" ETFs being launched on the ASX, but have they actually broadened investment strategies for investors?

Strategic-beta ETFs are a form of investment that blends passive and active investment styles. Rather than simply weighting stocks by market capitalisation, as traditional ETFs do, strategic-beta ETFs are based on indices which are specifically constructed to meet an investment objective or strategy, often taking into account factors such as a company's value and volatility.

"They sit somewhere between actively managed and passive investments because a strategic-beta ETF still tracks a benchmark index like all ETFs, but the benchmark has particular characteristics or factors which we believe will lead to outperformance over a market capitalisation-weighted index over time," says Shaun Parkin, head of the State Street-owned SPDR ETFs Australia.

Compared to actively managed funds, however, strategic-beta ETFs offer the advantage of lower costs and greater liquidity.

With traditional unlisted managed funds, investors buy units at an unknown price as it is calculated only after an application to invest is made. In contrast, an ETF can be bought and sold on the ASX just like a share for a known price. That provides investors with greater transparency and certainty.

These advantages have spurred the growth of the ETF market. As at 31 July 2016, there were 139 exchange-traded products (ETPs) listed on the ASX, up from 124 a year earlier.

The industry had a market capitalisation of $23.3 billion, up $3.4 billion from July 2015, according to the ASX Funds Monthly Update for July 2016.

More strategic-beta ETFs are likely to be launched on the ASX as demand for such products grows. In this very low interest-rate environment, for example, income ETFs, a type of strategic-beta, are gaining in popularity, says SPDR's Parkin.

"Income is very important to investors, as is trying to reduce volatility in a portfolio. This is one of the main reasons why clients are using ETFs alongside other investments. Over the long run, strategic-beta investments are expected to outperform market capitalisation-weighted indices, even in this passive structure," he said.

Along with income, strategic-beta ETFs may focus on a company's or asset's characteristics. The SPDR MSCI World Quality Mix ETF (ASX: QMIX), for example, is based on the MSCI World Factor Mix A-Series Index (QMIX Index), which is exposed to large and mid-cap companies globally, which represent value, low volatility and quality.

Importantly, Parkin says, the QMIX Index, on which the SPDR ETF is based, outperformed the MSCI World Index during the last week in June, after the unexpected Brexit vote rattled financial markets.

While value stocks underperformed, quality and minimum volatility stocks outperformed the market, as the table below shows.

In addition, over one, two and three years, the strategic-beta ETF has outperformed the benchmark MSCI World Index.

The cost of the index is 0.04 per cent of funds invested, significantly less than a managed fund.


Performance summary | Returns to July in AUD (%)

  1 month 3 months CYTD 1 year 2 years 3 years
SPDR MSCI World Quality Mix Fund
(QMIX) (net of fees)
1.80 4.74 4.30      
QMIX Index 1.93 4.54 4.04 1.35 15.18 13.91
QMIX Excess vs QMIX Index -0.13 0.20 0.26      
MSCI World Index 2.11 4.06 0.42 -3.82 13.03 12.67


Arian Neiron, the managing director of VanEck Australia, another ETF provider, says strategic beta is the fastest-growing segment of the investment management industry globally--and Australia is following this trend.

Strategic-beta products, by carving out a significant component of active management and offering transparent investments at a lower cost, will disrupt the business of active management, he says.

"We're not looking for a short-term fad, rather dependable long-term performance that investors can understand and use in their portfolios," he says.

"We don't necessarily develop our own indices, rather we search index providers for the smart beta which either takes the best advantage of a market distortion or is able to provide a specific investment outcome. 

"In regards to selecting an index provider that could provide a smart beta for a specific investment objective, S&P were able to create the S&P/ASX Franked Dividend ETF (ASX: FDIV), which only includes stocks that have paid income with 100 per cent franking credits--an investment outcome important to equity investors requiring yield.

"There are a number of dividend equities strategic-beta ETFs but VanEck Vectors S&P/ASX Franked Dividend ETF is the only one that pays 100 per cent franking."

More from Morningstar

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• Understanding ETF liquidity


Nicki Bourlioufas is a Morningstar contributor.

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