THE WALL STREET JOURNAL. Monday, October 7, 2019 |R9
JOURNAL REPORT | INVESTING IN FUNDS & ETFS
screen for high return on equity with
a growth screen and ends up with a
lower concentration in technology
than some other funds, at 19%. An
additional 14% of the portfolio is in-
vested in consumer defensive stocks,
which usually refers to companies
that make food, beverages and
household products. While Apple
and Microsoft are its biggest hold-
ings, the fund’s top five is rounded
out by Verizon Communications,
Exxon Mobil and Procter & Gamble,
according to Morningstar.
The fund is up 18.1% this year and
11.4% over five years.Rising valuations
Other funds in the sector include J.P.
Morgan’s relatively younger and
smaller $104.5 millionU.S. Quality
Factor ETF (JQUA), which sorts
large-cap stocks by profitability,
earnings quality and solvency, and
the $1.6 billionFlexShares Quality
Dividend Index Fund(QDF), which
focuses on companies that are pay-
ing dividends that are unlikely to be
cut in the future.
Investors need to be cautious
about valuation when investing in
ETFs focused on quality, says John
Davi of Astoria Portfolio Advisors,
who started moving money into qual-
ity stocks during last year’s fourth-
quarter market rout. QUAL trades at
a price-to-earnings ratio of 19.8, while
DGRW trades at 18.21. The S&P 500’s
P/E is around 19.1.
Although companies with strong
balance sheets and good fundamen-
tals typically command a premium
from investors, Mr. Davi says “qual-
ity has gotten expensive relative to
the market,” in some cases.
Some investors may find the high
concentration of tech stocks in some
of these funds surprising, Mr. Rosen-
bluth says, because many people
perceive the tech sector to be higher
risk than others.
But Apple and Microsoft, along
with financial stocks such as Master-
card and Visa, are “indeed blue-chip
companies that happen to also be
growth companies,” he says.Ms. Moyeris a writer in
New York. She can be reached
[email protected].In uncertain times,
investors bet on what
they think is reliabilityBYLIZMOYERof these conditions “make
the higher-quality ETF
well-positioned to provide
the stability investors
who are still seeking up-
side will find of interest,”
Mr. Rosenbluth says.Focus on tech
But not all quality ETFs
are built the same, ex-
perts say, and some have
gotten expensive relative
to the market.
One problem is that
there is no set definition
or criteria for “quality.”
As Mr. Rosenbluth puts it,
“quality is an example of a
word that is open to in-
terpretation. It is in the
eye of the beholder.”
High return on equity—
calculated by dividing net
income by shareholders’
equity—is of-
ten included
as one indicator of
quality, as it is consid-
ered a measure of how
effectively a company
uses its assets to gener-
ate earnings growth.
But funds also look at a
combination of other
data, including debt ratios, cash
flows, net operating assets and even
management attributes.
The biggest fund in the category,
the $11.6 billioniShares Edge MSCI
USA Quality FactorETF (QUAL), has
a fairly concentrated portfolio of 125
stocks and a 23.3% weighting in tech-
nology. Its biggest holdings are Apple
Inc. and Johnson & Johnson, at about
4% each, followed by Mastercard Inc.,Facebook Inc. and Visa Inc.
But unlike some other quality
funds that focus only on large-capi-
talization stocks, QUAL looks at
both large and midcap stocks and
ranks them by high return on eq-
uity, low debt-to-equity and stable
earnings growth.
The fund is up about 22.1% this
year through Oct. 1, according to
fund researcher Morningstar Inc.,
and 11.2% over five years.
Invesco’s $1.5 billionS&P 500
QualityETF (SPHQ) is even more
concentrated, with 98 stocks, and
nearly 44% of the portfolio invested
in the top 10 holdings. It has a big-
ger weighting to technology, at al-
most 27%, with another 20.2% in-vested in health care. Top holdings
are Apple and Microsoft Corp., at
around 5% each.
The Invesco portfolio is built
looking at three measures of quality:
high return on equity, lower accruals
(noncash-derived earnings) and low
debt-to-book value (a measure of
earnings stability). The fund uses a
composite score of all three mea-
sures, plus a stock’s capitalization
weighting, to rank equities, investing
in those in the top quartile.
SPHQ has returned 20.6% this
year through Oct. 1 and 11.2% over
five years.
WisdomTree’s $2.8 billion US
Quality Dividend Growth Fund
(DGRW), meanwhile, layers a qualityThe Rush
Into Quality
Stocks
SECTOR STRATEGY
A
s uncertainty mounts
over the direction of
the economy and finan-
cial markets, investors
are flooding into ex-
change-traded funds focused on so-
called quality stocks.
Quality stocks are those of compa-
nies with higher and more reliable
profits, low debt and other measures
of sustainable earnings. Presumably,
these are the stocks that can with-
stand an economic downturn better
than others, and advisers see expo-
sure to quality as a way to reduce risk
at a time when stock valuations are
still high.
This year through September,
some $4.6 billion has
poured into ETFs fo-
cused on quality
stocks, according to
data from Bloomberg.
That is more than the
$3.5 billion that was in-
vested in the strategy
for all of last year and
is the highest amount
ever in any calendar year, says Todd
Rosenbluth, who heads ETF and mu-
tual-fund research at CFRA, a New
York financial-data provider.
Corporate earnings are increasing
a slower rate, and U.S. economic
growth is slowing. Economies
abroad are slowing, and a trade war
with China as well as Britain’s still
unresolved exit from the European
ALEX NABAUMUnion are adding to uncertainty. All
But what is
‘quality’? It’s
in the eye of
the beholder.An investor should consider investment objectives, risks, charges and expenses carefully before investing. To obtain a prospectus, which containsthis and other information, call 1-866-SECTOR-ETF or
visit http://www.sectorspdrs.com. Read the prospectus carefully before investing.TheS&P500,SPDRs®,andSelectSectorSPDRs®areregisteredtrademarksofStandard&Poor’sFinancialServicesLLC.andhavebeenlicensedforuse.ThestocksincludedineachSelectSectorIndexwereselectedbythecompilation
agent.TheircompositionandweightingcanbeexpectedtodiffertothatinanysimilarindexesthatarepublishedbyS&P.TheS&P500Indexisanunmanagedindexof500commonstocksthatisgenerallyconsideredrepresentative
of the U.S. stock market. The index is heavily weighted toward stocks with large market capitalizations and represents approximately two-thirds of the total market value of all domestic common stocks. Investors cannot invest
directlyinanindex.
TheS&P500Indexfiguresdonotreflectanyfees,expensesortaxes.Ordinarybrokeragecommissionsapply.ETFsareconsideredtransparentbecausetheirportfolioholdingsarediscloseddaily.Liquidityischaracterizedbyahigh
leveloftradingactivity.SelectSectorSPDRsaresubjecttoriskssimilartothoseofstocks,includingthoseregardingshort-sellingandmarginaccountmaintenance.AllETFsaresubjecttorisk,includingpossiblelossofprincipal.
Fundsfocusingonasinglesectorgenerallyexperiencegreatervolatility.Diversificationdoesnoteliminatetheriskofexperiencinginvestmentlosses.
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