Invesco PowerShares Capital Management this week introduced a “suite” of nine new exchange-traded funds (ETFs) which it is calls Fundamental Pure Style ETFs, based upon the Research Affiliates Fundamental Index (RAFI).
The suite of ETFs will feature two new ETFs, plus seven existing ETFs that will be renamed and shifted over to the RAFI index.
The RAFI index, according to its designers at Research Affiliates, seeks to overcome shortcomings in judging a company’s size and assigning it a weighting in an ETF based solely on its current market capitalization -- a figure that can change wildly and often based upon market trends.
As Invesco explains, “using market cap to weight companies in an ETF “tends to overweight overvalued stocks and underweight undervalued stocks.
As Research Affiliates explains their alternative approach, “The RAFI methodology represents a company’s economic footprint, not constantly shifting market expectations, bubbles and anti-bubbles reflected in its share price.”
Instead of just assigning weightings according market cap, the RAFI index looks at a combination of book value, cash flow averaged over five years, sales averaged over five years, and dividends averaged over five years. (In the case of companies that haven’t paid out dividends over the past five years, that particular category of measurement is dropped.)
The RAFI index looks at the 2,500 largest public U.S. companies, which besides being ranked on the basis of those four categories, are also divided into growth, value and core categories.
The two new ETFs being introduced are the PowerShares Fundamental Pure Large Growth Portfolio (PXLG), which is based on the RAFI Fundamental Large Growth Index, and the PowerShares Fundamental Pure Large Value Portfolio (PXLV), based on the RAFI Fundamental Large Value Index.
The other seven renamed and re-indexed ETFs are: the PowerShares Fundamental Pure Large Core (PXLC), formerly called the PowerShares Dynamic Large Cap (PJX); the PowerShares Fundamental Pure Mid Growth (PXMG), formerly the PowerShares Dynamic Mid Cap Growth; the PowerShares Fundamental Pure Mid Core (PXMC), formerly PowerShares Dynamic Mid Cap (PJG); PowerShares Fundamental Pure Mid Value (PXMV), formerly PowerShares Dynamic Mid Cap Value (PWP); PowerShares Fundamental Pure Small Growth (PXSG), formerly PowerShares Dynamic Small Cap Growth (PWT); PowerShares Fundamental Pure Small Core (PXSC), formerly PowerShares Dynamic Small Cap (PJM); and PowerShares Fundamental Pure Small Value (PXSV), formerly PowerShares Dynamic Small Cap Value (PWY).
All the older versions of the seven updated ETFs were based on The American Stock Exchange’s Intellidex Dynamic Indexes, which tracked a smaller number of companies.
John Feyerer, head of product strategy and research at Invesco PowerShares, says that both the RAFI-based and the earlier Dynamic index-based ETFs “attempt to construct portfolios that deliver style purity by eliminating constituent overlap.” The main difference between the two, he explains, is that the RAFI approach “includes all the companies in a given style-box and weights them according to their fundamental size.”
Feyerer adds that any costs associated with the changing of the existing ETFs over to the RAFI index would be “minimal" due to the funds' ability to utilize the in-kind transfer for a portion of the conversion.