TDFs Still Stink & Other Fund Content

Barron's quoted Savita Subramanian as favoring so called quality stocks whose attributes include low debt and high return on equity. Barron's offered up the iShares MSCI US Quality Factor ETF (QUAL) and the Invesco S&P 500 Quality ETF (SPHQ) to access the space for anyone not inclined to pick individual stocks. 

Maybe she's right or maybe she's wrong but trying to capture the idea with ETFs may not be worth it. One of those lines is QUAL, one is SPHQ and the other is the S&P 500. Other than noticeable outperformance by QUAL in 2022, noticeable but not dramatic, there's no real discernible difference. Not that individual stocks with quality attributes can't outperform at some point in the cycle or that Subramnaian's thought process is wrong, the point here is that this appears to be an example where indexing a bunch of them into one fund doesn't deliver the effect.

Another one from Barron's that is kind of a head scratcher is that Vanguard, Fidelity's Target Date Funds Underperform Balanced Options: Morningstar. If you've been reading my posts for a while you might recall I am not a fan of target date funds (TDF). They did terribly in 2008 and terribly in 2022. The glide paths are all over the place and very arguably a fit 70 year old needs a lot of equity exposure subject to their tolerance for volatility. For my money, it's a lousy product.

While I do think they stink, they don't stink for the logic cited by Morningstar. The issue here is that they compared TDFs which they say have a lot of exposure to foreign equities to balanced funds that only own domestic stocks. Yes, domestic has trounced foreign for many years so of course funds with meaningful allocations to foreign equities, regardless of whether they are TDFs, are going to lag funds with pure domestic exposure. They are literally comparing different things. It is odd. 

Vanguard responded with the basic argument for about the diversification benefits of foreign exposure which are of course correct and to which I would add between the two, one must outperform the other. In the 80's and 90's domestic outperformed, for most of the 2000's foreign outperformed and we are now in a 12 or 13 year run of domestic outperforming. Maybe the idea of foreign equity exposure does not interest you, fine of course but that is a different issue. In the 2000's I was much heavier in foreign than I have been for the last 10 or 12 years. I recently nudged up foreign exposure because of how long it has lagged domestic.

A couple of the comments on this article (always read the comments) opined that Vanguard and Fidelity were not putting customers first by steering them, via 401k plans, to target date funds. While I do not draw that conclusion, maybe the commenters are correct, I have no idea but if you agree with that sort of conclusion then that's all the more reason to avoid TDFs if at all possible.

If I were in an employer sponsored 401k and only had TDFs to choose, I would use the TDF with the furthest date as a proxy for equity exposure and the TDF with the shortest date (maybe even one from a couple of years ago) as my fixed income proxy and determine the mix myself. 

A quick word about the ASYMetric Smart S&P 500 ETF (ASPY) which the fund's website is "engineered to generate the returns of the S&P 500 with less risk."

How do you think they've done relative to the expectation they are setting or maybe more fairly, the intended outcome they are hoping for?  It came out of the blocks, tracking the index higher, rolled over with the index for the first 10% down in 2022, the hedging process then kicked in and it has been mostly flat for the last 16 months.

Specifically the strategy is to be "100% invested in low volatility equities when the S&P is in a bull market and by being net short the S&P 500 when the index is in a bear market.” I am having a hard time matching that description to what the chart looks like. Clearly, the fund will not get you out at the top. That's ok, it isn't claiming it will identify bear markets before they happen. But it identified something in April in 2022 that resulted in not looking anything like the S&P 500 but if it was net short then I would expect it to have gone up some into mid-October when the apparent low was put in. 

I wouldn't have expected the fund to have re-equitized at the bottom but we are now 10 months from that bottom and the chart doesn't look like they re-equitized at any point. Looking closer, there are three different postures not two. The third one looks like it is cash or T-bills when "market risk is rising and the outlook for the S&P 500 is uncertain." Maybe the fund never went short, maybe it just went neutral?

Currently the fund actually is in bull market mode but up above where I quote the literature as using low volatility equities? That's is what it owns and for this year, low vol equities have lagged behind market cap weighting due to the extremely narrow concentration of mega cap tech that has carried the market higher this year. I could not find when it went from neutral to bullish and maybe I am interpreting the chart incorrectly about it having been neutral.

I don't know whether ASPY is intended to be core holding to replace a broad based equity index fund or as more of a complimentary exposure but it is kind of complex strategy and it is easy to look back to understand why it has lagged so much. When we talk about trying to build a portfolio heavily weighted to simplicity, hedged with a little complexity this is what I have in mind. I think it makes more sense to have simple equity exposure and then hedge that with a small slice to what might be a complex hedging strategy versus trying to have it all under one roof. There are exceptions but for now, I don't think ASPY is one of them. 

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