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News Bear Stearns Rolls Out First U.S. Active ETF Well, it finally happened. The U.S. ETF market got its first actively managed exchange-traded fund this spring when the much anticipated Bear Stearns Current Yield Fund (AMEX: YYY) launched on March 25. The fund, which charges an expense ratio of 0.35 percent, invests in short-duration U.S. government and corporate debt, targeting an average duration of 180 days. It functions more or less like an actively managed money market fund. YYY’s launch was quickly followed by the launch of four new actively managed ETFs from Invesco Power- Shares. Three of the new funds are stock funds. The PowerShares Active AlphaQ Fund (NYSE Arca: PQY) selects its holdings from the NASDAQ Stock Exchange based on a proprietary quantitative model developed by AER Advisors; it is mainly a large-cap growth fund. The PowerShares Active Alpha Multi-Cap Fund (PQZ), also advised by AER Advisors, holds stocks from all size and style segments and those listed on any U.S. exchange. Both PQY and PQZ are restricted to making a limited number of trades on a weekly basis. The third equity fund, the Power- Shares Active MegaCap Fund (PMA), is a quantitative fund managed by PowerShares’ parent company, Invesco. All three of the stock funds charge expense ratios of 0.75 percent. The fourth PowerShares fund, the PowerShares Active Low Duration Fund (PLK), is a fixed-income fund that targets a duration of 0–3 years. It charges an expense ratio of 0.29 percent. PLK is also managed by PowerShares’ parent, Invesco. The obvious question is what distinguishes these funds from the other quantitative funds from PowerShares, such as its flagship Dynamic Market Intellidex (AMEX: PWC). The answer is that these new funds do not track an index, which should help them avoid the potential problem of “front-running.” In regular index-based ETFs, the index provider publishes the changes to the index in real time, and the fund must then trade to match those changes. Enterprising hedge funds can and do step in front of funds and profit from the incipient demand. The new active funds will be able to make trades during the trading day, but those trades won’t be made public until after settlement the following day. That one-day window of silence is the key reason PowerShares launched these funds. Home Prices Tumble Things still look unbearably grim as the housing market malaise drags indexes lower and lower. The 10-city Standard & Poor’s/Case-Shiller Home Price Indices was down 2.8 percent for the month of February and a record 13.6 percent for the trailing 12-month period. Meanwhile, the 20-city composite was down 2.6 percent for the month and 12.7 percent for the trailing 12-month period. In all, the 10-city composite is down 15.8 percent from its June 2006 peak, while the 20-city composite has fallen 14.8 percent from its July 2006 peak. Without exception, every metropolitan statistical area covered by the indexes showed a decline for the month of February—ranging from a 0.4 percent decline for Charlotte to a 5.0 percent drop for San Francisco. For the 12-month period, only Charlotte had a positive return, up 1.2 percent. Las Vegas had the worst one-year decline, at -22.8 percent, followed by Miami at -21.7 percent and Phoenix at -20.8 percent. S&P noted that Las Vegas and Miami grew Things still look unbearably grim as the housing market malaise drags indexes lower and lower. 48 July/August 2008
apidly in the 2004/2005 periods, with annual growth rates that were at times above 50 percent and 30 percent, respectively. Barclays Launches First All-World Stock ETF U.S. consumers looking for a true all-world fund got one March 28, as Barclays Global Investors launched the world’s first all-world ETF. The iShares MSCI ACWI Index Fund (NASDAQ: ACWI) tracks an index of 2,884 different stocks from developed and emerging markets in every investable market in the world. At the end of 2007, the U.S. represented 42 percent of the underlying index, Europe comprised 31 percent, emerging markets 11 percent, Japan 8.5 percent and Canada 4 percent. The new fund carries an expense ratio of 0.35 percent, and offers investors their first shot at one-stop shopping: No more home bias, rebalancing or anything else. Vanguard Files For All-World Fund Vanguard kicked off April with a SEC filing to launch the Vanguard Global Stock Index Fund. The fund will be available as Investor shares, Institutional shares and ETF shares. The ETF shares will charge 0.25 percent in annual expenses. That expense ratio undercuts the new offering from Barclays Global Investors by 10 basis points (0.10 percent). The new Vanguard fund will track the FTSE All- World Index, an index that covers 2,900 stocks from 48 countries. Northern Trust Enters ETF Market Northern Trust Global Investments, the asset management arm of Northern Trust, has entered the ETF arena with the launch of its Northern Trust Exchange-Traded Shares, or “NETS.” NETS has taken a unique approach to developing its ETF family. Most ETF providers use one family of indexes to cover all global markets; for instance, iShares has a complete family of single-country ETFs that rely on MSCI indexes. In contrast, NETS has licensed the most popular (or some of the most popular) local indexes in each foreign market, such as the FTSE 100 in the U.K., the CAC 40 in France, etc. It’s an interesting idea for carving out space in a crowded ETF market. The first NETS funds were launched on April 9 and included the S&P/ASX 200 Index Fund (AMEX: AUS) covering Australia and the NETS FTSE 100 Index Fund (AMEX: LDN) in the U.K. They were followed by seven more funds: NETS DAX Index Fund (AMEX: DAX)—Germany NETS TOPIX Index Fund (NYSE Arca: TYI)—Japan NETS CAC 40 Index Fund (NYSE Arca: FRC)—France NETS Hang Seng Index Fund (NYSE Arca: HKG)—Hong Kong NETS S&P/MIB Index Fund (AMEX: ITL)—Italy NETS FTSE Singapore Straits Times Index Fund (AMEX: SGT)—Singapore NETS FTSE/JSE Top 40 Index Fund (AMEX: JNB)—South Africa JNB charges an expense ratio of 0.65 percent; the rest of the funds charge 0.47 percent. There are several more ETFs covering various foreign markets in registration. INDEXING DEVELOPMENTS Dow Jones Embraces RBP In New 130/30 Indexes Dow Jones has launched a new suite of indexes that follow the “130/30” strategy popular with many hedge funds. The 130/30 strategy is designed to deliver higher-than-market returns without taking on excessive risk. In the classic 130/30 strategy, a hedge fund manager starts with a 100 percent long position in the market and then layers a 30 percent long/30 percent short stock-picking portfolio on top of it. In this “30/30” portfolio, the manager goes long the stocks she likes the best and short the stocks she likes the least. The idea is to maintain 100 percent net exposure to the market while adding alpha with the 30/30 portfolio. The Dow Jones U.S. RBP indexes use a unique methodology developed by Transparent Value LLC to select stocks for the 30/30 basket. Transparent Value’s methodology, called “Required Business Performance” (hence RBP), uses discounted cash flow analysis to determine how much revenue a company needs to generate each quarter in order to justify its current stock price. It then examines historical revenue trends to project the likelihood that the stock will meet this RBP requirement. Stocks with the highest probability of meeting their RBP form the 30 percent long basket in the new indexes, while stocks with the lowest probability form the 30 percent short basket. Currently, the DJ U.S. RBP index family consists of three major indexes: the core Dow Jones RBP U.S. Large-Cap 130/30 Index, plus similarly constructed growth and value versions. Dow Jones expects to launch additional indexes (including non-130/30 indexes) using the RBP methodology. Merrill Joins The Frontier In March, Merrill Lynch Global Research rolled out the Merrill Lynch Frontier Index, joining the growing www.journalofindexes.com July/August 2008 49
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Page 3 and 4: Contributors David Blitzer Matt Hou
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Page 41 and 42: The ABCs Of ETFs Alpha, Beta and Co
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