A Huge ETF You've Probably Never Heard Of

The Pacer Metaurus US Large Cap Dividend Multiplier 400 ETF (QDPL), via a Tweet thread from Corey Hoffstein, is an interesting fund with about $500 million in assets that fits right in with one of the discussions we have here regularly. Metaurus is an investment firm that appears to partner with Pacer on the strategy, there are other Pacer Metaurus funds too. Obviously the name Metaurus was the name of a battle in the second Punic War between Rome and Carthage. Just kidding, I Googled that.

The fund owns the S&P 500 and dividend futures, that's a thing, with the objective of tracking the S&P 500 on a price basis with 4x the index' distribution. We've talked about this some, but pretty superficially with the Overlay Large Cap Shares (OVL). That fund owns the S&P 500 and generates income selling put spreads. Unlike a covered call strategy, selling put spreads does not cap the upside. The negative trade off to what OVL does is that it can go down more than simple market cap weighted (MCW) exposure as was the case in 2022 when it was worse by about 400 basis points. 

A little more specifically, QDPL has 89% in the S&P 500 and the rest dividend futures (cash to collateralize the futures).

I think part of why Corey Tweeted this is it looks like a variation on ReturnStacked ETFs and the graphic is also very similar (I think) to what is in ReturnStacked's marketing material. QDPL though is several years older, having started trading in August, 2021. 

At a high level, being able to track the S&P 500 with a higher yield is interesting and not something that the older covered call funds can do. Some of the newer ones that sell 0dte options instead of monthly expirations seem to do a better job of staying closer. Not close maybe, but closer.

This captures total return of all three funds we're talking about. OVL outperformed in all three of the up years captured and lagged in 2022 like I said. QDPL lagged slightly in all three up years and went down 196 basis points less than VOO in 2022. The total return picture is not discouraging. 

Price-only is a different picture. Part of the price-only lag is that QDPL only has 89% in the actual index. Forgetting everything else for a minute, the expectation should be that it will lag some just because of that fact. That's neither bad nor good, it's an expectation that I think is being set. 

The combo of more yield with less upside is a valid exposure for how it can potentially blend with the other holdings and for the yield that can be added to the overall mix. If the 215 basis point lower standard deviation of QDPL is appealing enough to make the fund the core equity holding then I would suggest reinvesting a good portion of the dividend to not sacrifice too much of MCW's compounded growth. That supposes that the investor needs compounded growth. 

I think there in an interesting way to think about QDPL as sort of a proxy for one aspect of carry. There is a capital efficiency aspect to the fund's payout. Looking at the history of the fund, there hasn't been a problem with the QDPL getting very close to 4x the dividend of the S&P 500. That part of it appears to work.

If a portfolio just held $10,000 in VOO, then in 2023 it would have taken in $162 in dividends. To get that same $162, an investor could have had just 24% of the dollars invested in QDPL to get the same carry. One form of carry is the return, yield or dividends or interest, irrespective of price movement. A stock pays $3/sh in dividends, regardless of whether it goes up 5% or down 5%, the $3 dividend is the carry. 

Lets assume QDPL will continue to get 1/3 of VOO's price appreciation. A 24% weight then to QDPL might contribute 8% of of equity beta to the result. Playing this out hypothetically, the other 92% of equity beta could come from a 46% weighting to a 2x leveraged long fund, leaving room for a variation of return stacking, or creating portable alpha, that avoids multi-asset funds.

The 24/46 blend with the rest in cash was off a bit from exactly tracking VOO because the way it samples out with such a short test, the recovery off the 2022 low was a lot to overcome but it is still close, you can build this for yourself and decide what you think. And it is possible that the new Tradr leveraged long funds will work better in this capacity. I built out the rest of Portfolio 2 with alts we use for blogging purposes all the time. BTAL is a client and personal holding. 

Portfolio 2, has plenty of equity beta, it outperformed VOO slightly and had lower standard deviation but again looked very much like the market. In 2022 out was down 500 basis points less than the S&P 500 though, so that is worth noting. 

On Corey's thread, there was a conversation about how tax inefficient QDPL is because dividends are taxed at ordinary income rates. We don't talk a lot about taxes here but maybe we should talk a little bit more, at least on this one. I'm not a tax expert so I can only tell you how it is, not necessarily why it is. A lot of these options funds characterize the payouts differently than straight dividends.

The vast majority of the payout from QDPL is characterized as a return of capital. In a recent post I mentioned sitting in on a webinar for ProShares S&P 500 High Income ETF (ISPY) which made a big deal out of being able to characterize as return of capital. Simplify Bitcoin Strategy PLUS Income ETF (MAXI)'s "dividend" is almost entirely characterized as return of capital. ISPY and MAXI are both in my ownership universe. There are other funds too that can do this. Return of capital is not taxable when received. It lowers the cost basis so yes, when you sell there will probably be capital gains. For now, long term capital gains tax rates are either 0%, 15% or 20% which will be less than ordinary income rates. Of course, none this matters if the account in question is an IRA, Roth or HSA.

The point of the exercise is to show that for anyone actually interested in portable alpha, I think there is a better way than using some of the more complex multi-asset funds. I think there might be a little more to them than appears, I don't mean that in a good way. Where we talk about investment products evolving, I think there is a path to pulling this off in a manner similar to what we did today, getting what amounts to the full equity effect from just a little less exposure to make room for an alt. While the fund providers in this space talk a lot about wanting to avoid tracking error, I'm not sold on that idea as a priority but if it is your priority, I don't think complex multi-asset funds are the way to get it done. 

The information, analysis and opinions expressed herein reflect our judgment and opinions as of the date of writing and are subject to change at any time without notice. They are not intended to constitute legal, tax, securities or investment advice or a recommended course of action in any given situation.

Blending Factors

Over the last few days I've fished around looking at multi-asset ETFs that I perceive are intended to be either one fund, portfolio solutions or the major core holding with a little room left for maybe alternatives or thematic exposures or whatever. Often, these funds have a lot going on under the hood and it seems that very few are adequate replacements for the benchmark Vanguard Balanced Index Fund (VBAIX). If an investor wants just one fund that targets 60/40, I do not, most of them simply are not better than VBAIX. There could easily be a role for some of these other funds with a smaller allocation to a more involved portfolio though.

In working through some of these, I circled back to the Leuthold Core ETF (LCF) which I wrote about in more detail in July. By my count it has not quite 60% in equities, 21.5% in fixed income including the iShares 1-3 Treasury ETF (SHY), 9.9% in cash, almost 6.5% in inverse equity funds and then a little bit in euro and yen ETFs. When we looked at in July it had a little Bitcoin. The asset allocation numbers are similar to what they were when we looked three months ago so comparing it VBAIX makes some sense.

Since inception, LCR has compounded at 8.52% with a standard deviation of 10.16 compared to 8.62% growth and 13.10 standard dev for VBAIX. LCR has lagged every year but been close to VBAIX except for 2022 obviously when it outperformed by 930 basis points. If we go the rest of the decade without a meaningful decline, which seems unlikely, then LCR would probably continue to lag but be close most of the time. Lag most of the time but close with real defensive properties is very good outcome for a fund.

I wanted to try to figure out how to work LCR into a robust backtest and think I figured something out. A ratio of 65% Invesco S&P 500 Momentum (SPMO) and 35% LCR just about equaled the return of the S&P 500, the blend was better by 26 basis points, but with a standard deviation that was lower by 277 basis points which I think is a noteworthy difference. 

Portfolio 3 simply takes that last 20% and splits it between TFLO and SHRIX and the benchmark is VBAIX. BTAL is a client and personal holding. 

The three generally outperform by 300-400 basis points and the standard deviations are quite a bit lower. The long term results, as long as they can be for LCR's age, are of course compelling but as you can see below, anyone holding this portfolio needs to be prepared to lag at times. 

If someone had put some version of this portfolio on as soon as LCR listed in early 2020, they'd have been behind by a lot by the end of year and it would have been easy to throw in the towel. With some time under its belt, I think we have some expectation of LCR as I said above. Jumping right in, there probably would have been no reasonable expectation of what LCR would do. If you actually put 17.5% into one fund, you probably should have some sort of expectation for what it will do, in this case I think that is lag some but be close and then offer some defense during a decline. You already have some idea of what a broad based index fund that isn't the S&P 500 will do....sometimes it will be ahead and sometimes it will lag. In ten full and partial years, SPMO has lagged the S&P 4 times and outperformed 6 on the way to CAGR that was better by 232 basis points. In a different ten year window, maybe SPMO would lag a little but it will very likely be close. 

The information, analysis and opinions expressed herein reflect our judgment and opinions as of the date of writing and are subject to change at any time without notice. They are not intended to constitute legal, tax, securities or investment advice or a recommended course of action in any given situation.

20 Years Of Blogging! Part 2

Part 1 took a look the evolution of the blog and for Part 2, I want to try to look at how portfolio process has evolved and track how I view life milestones as related to things like retirement. 

Starting with portfolio construction, we've always placed a emphasis on holding long term. The chart captures most, not all, of the names that I've held for clients since I started doing this at my old firm. It shows three stocks that have outperformed the S&P 500 and three that have underperformed.

The names aren't important for this post. The three underperformers are all names from defensive sectors with higher dividends. The chart is price only and the yields ranged from mostly around 3%, up to 4% occasionally (one has been closer to 4% than 3% pretty consistently). The total return lag isn't as big as it appears on the chart but they clearly lagged. The outperformers are growthier, with two out of the three coming from sectors you'd expect to see more growth and so larger declines potentially too. 

You see charts like this as a younger investor and maybe it makes less of an impression as opposed to having lived through it first hand. It has given me greater respect for the concept of ergodicity, the natural inertia for markets to go up far more often than not. Two of the three laggards went down far less in 2008 as did one of the outperformers. The third laggard was down a little worse than the S&P 500.

Here's the same batch just for 2022.

If they all go up together, then they will probably all go down together. I don't remember where I got that one but both charts show the importance of owning stocks or ETFs with different attributes that react differently to different types of market environments. If you are going to go narrower than broad based index funds, then I think it is important to have some holdings that at a minimum can be reasonably counted on to go down less. For my money, I would want to expand that to having some holdings that can be reasonably be counted on to go up when stocks go down. Obviously, if it can be reasonably expected to go up in a down market then is will probably go down in an up market. 

This has also reiterated how important patience is in investing. There's another batch of names in the portfolio that have been maybe been in there 12-14 years. Same thing, some big outperformers and some laggards but again they bring different attributes to the portfolio. 

The evolution of alternative strategies and my willingness to explore them has helped the portfolio too. They don't all work out as hoped but I believe they have helped considerably in smoothing out the ride. The ramp up process to using alternatives is also an exercise in patience. The other day I mentioned that original blog site is gone but that I can see the posts in the blogger template. On Christmas Day, 2005 I wrote about alternatives including a look at the Merger Fund (MERFX). I didn't add that fund in until two years later. Sometimes I just know it will work like BLNDX and BTAL, but plenty of times it takes a while for me to draw a conclusion one way or another. Where I am using more alts these days in place of traditional fixed income, I don't think the process has sped up any. 

I believe I place greater emphasis on smoothing out the ride. This is for two reasons. One is to spare or at least minimize putting clients through the emotional ringer like during the soon to be forgotten Great Hiccup of August 2024. Every time I tell a client "I don't know what the market will do but this decline will not impact your income needs," I can hear the relief in their voice. There is also the reality that all advisors have clients who take way more out than is safe. One client has been taking out 10-15% for 18 years. Smoothing out the ride lessens the damage from that sort of behavior. I don't know if he will ever deplete this account or not but he's very lucky to have made it so long without doing so. 

Another small change in portfolio management is that I've been willing to have zero exposure to the energy sector. Zero exposure to a sector is a big bet I used to say.

The simple observation is that the energy sector is broken. The volatility for a sector is off the chart but there has been no terrific growth to compensate for that volatility. From the top down, any argument for investing in oil is weak. At some point I'm sure it will heal but I have no idea when and so it just makes sense to avoid for now. 

On a personal level, not much has changed. Things have evolved but not really changed. At 38, I figured I would do the same work forever without much interest in retiring. From the standpoint of never knowing what the future you will want to do, I didn't wake up one day at 50 and say "oh man, I gotta make a change" which is something that happens to plenty of people, maybe not 50 exactly but you get the idea. 

In terms of lifestyle ideas that I've shared, I've tried to walk the walk on that. I've kept myself physically fit, invested time into creating income streams in the future if needed, stayed curious and we continue to live below our means. All of these things make life much easier. 

The biggest addition to my life might be that I've become much more of a health nut. I've always lifted weights and hiked but beyond saying "don't drink soda," my understanding of the role diet plays in successful aging was woefully lacking and so I've spent a lot of time trying to learn more. I'm far more involved with the fire department than I used to be. I went to training and responded to calls but being chief is obviously a significant leveling up of engagement. 

I've never been much of a goal setter in terms of thinking about the next 20 years but my priorities of being healthy, happy at home, owning my time and not having financial stress (this does not require being rich) are still front and center for me. My belief in very actively volunteering has not waivered, if anything, I believe that even more than I did. 

So much has happened in markets in the last 20 years, I'm not sure if hoping the next 20 are just as interesting is a good thing or a bad thing but I hope to be blogging about it all the way through. 

The information, analysis and opinions expressed herein reflect our judgment and opinions as of the date of writing and are subject to change at any time without notice. They are not intended to constitute legal, tax, securities or investment advice or a recommended course of action in any given situation.