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iShares launches US factor ETFs

iShares' new US ETFs imitate active management styles at a low cost, but the indices they track haven't done as well as comparable options
October 20, 2016

iShares has launched four new US equity exchange traded funds (ETFs), which use active investment styles, but at much lower prices than active funds. However, the ETFs track newer indices than their UK-listed peers, which have not outperformed comparable value indices.

iShares Edge MSCI USA Value Factor UCITS ETF (IUVL), iShares Edge MSCI USA Size Factor UCITS ETF (IUSZ), iShares Edge MSCI USA Momentum Factor UCITS ETF (IUMO) and iShares Edge MSCI USA Quality Factor UCITS ETF (IUQA) harness investment styles associated with active management - a popular new ETF theme. Index provider MSCI has identified six factors it believes could outperform over the long term: yield, momentum, value, size, quality and volatility. And providers, including Amundi, Lyxor, Vanguard and UBS, have launched European and global equity ETFs based on these.

Currently, only UBS and SPDR have US factor ETFs listed on the London Stock Exchange, and iShares' new funds match UBS on price, with a 0.2 per cent ongoing charge. However, the indices iShares has chosen have a shorter track record with poorer performance than comparable US quality and value factor ETFs.

iShares Edge MSCI USA Value Factor UCITs ETF tracks MSCI Enhanced Value index, which is made up of 148 stocks. SPDR MSCI USA Value Weighted UCITS ETF (USVL) tracks the MSCI Value Weighted index, which has 616 holdings, and UBS MSCI USA Value UCITS ETF (UC07) tracks the MSCI USA Value index, which has the longest track record of all these indices and comprises 316 stocks.

Factor ETFs are designed to outperform a broad market-cap-weighted index over the long term, and in the case of value stocks by focusing on undervalued stocks which could perform better than overpriced peers. The indices tracked by the UBS and SPDR funds have outperformed MSCI USA index over one year, but MSCI USA Enhanced Value index has underperformed it by 6 per cent.

iShares Edge MSCI USA Quality Factor UCITS ETF tracks MSCI USA Sector Neutral Quality Index, launched in 2014, which selects the stocks from MSCI USA index with the highest 'quality' scores. Over one year it has underperformed MSCI USA index, and MSCI USA Value index which is tracked by UBS Factor MSCI USA Quality UCITS ETF (UC99), though only by a small margin.

Styles such as value, size and quality have outperformed broader benchmarks over the long term, but do not do well in all conditions. The performance of each factor is cyclical and at a time when the US could be about to raise interest rates, choosing the right one is essential.

Over five years, MSCI World Quality index has outperformed MSCI World index by more than 20 per cent. MSCI Europe Quality index has also substantially outperformed the broader Europe index over three years. That is partly due to its concentration in stocks that generate consistent, stable dividends, which investors have favoured in the low interest rate, low yield environment. These include British American Tobacco (BATS), Unilever (ULVR) and GlaxoSmithKline (GSK), all of which feature heavily in the MSCI Europe Quality index, and in the US Apple (US:AAPL), Microsoft (MSFT) and Johnson & Johnson (JNJ).

At the same time, value indices have tended to underperform in recent years. However, in a rate rise cycle investment styles could shift, making market timing a crucial factor when selecting these ETFs. If you are considering a US factor ETF, make sure you look beyond the ongoing charge to the stocks they hold: they may be quality and value stocks, but that doesn't mean the market will see it that way.

Total return (% total return) of broad and factor indices

Index1m3m6m1yr3yr5yr
MSCI Europe 6.38.614.017.621.767.3
MSCI Europe Quality 3.14.612.020.738.1 
MSCI Europe Value 8.010.514.714.912.453.9
MSCI USA 7.07.820.434.668.6140.1
MSCI USA Quality7.48.918.235.076.6 
MSCI USA Value7.37.621.836.463.1133.3
MSCI World 1.27.415.927.238.487.4
MSCI World Quality 6.38.317.533.465.6118.6
MSCI World Value7.99.420.730.042.797.4

Source: FE Analytics, as at 18.10.16