Editor's Note: This content was originally published on Benzinga.com by The ETF Professor, Benzinga Staff Writer.
These days, investors have many more options beyond traditional cap-weighted exchange traded funds, or those funds that assign weights to holdings based on market value.
That is one way of doing things and it is a methodology that ETF sponsors have used for years, but investors have also been embracing alternative weighting methodologies
While cap-weighted ETFs often provided investors with the lowest fees, some funds that are constructed on fundamental factors are worthy of consideration as well. That is the case because there are plenty of examples where fundamental screening can result in superior returns for investors.
Or investors can merely say that fundamentals are an integral part of the stock picking process and acknowledge that what works at the single stock level can certainly be efficacious with ETFs. With that in mind, here are some ETFs built on fundamental factors, not cap-weighting, that may not be getting the appreciation they deserve.
First Trust Europe AlphaDEX Fund
Monday's negativity serves as a reminder that all is still not well in Europe, particularly in the peripheral countries such as Italy and Spain. It cannot be forgotten that factors such as the banking system, public policy and household capacity could weigh on or be catalysts for European equities over the next two years.
No, Europe is not sanguine as global investors had previously hoped, but FEP's methodology may help investors skirt some European risk. FEP's constituents are ranked on growth factors such as sales to price and one year sales growth and value factors such as cash flow to price and return on assets.
FEP, which will turn two years old in April, avoids single-stock risk by allocating just 1.15% to its largest holding and the fund is not heavy on PIIGS stocks. The UK accounts for 26% of FEP's weight while Sweden and Norway combine for almost 11%, indicating there is significant non-eurozone exposure in the fund. FEP is up 12% in the past year, but still offers a play. It has a P/E of almost 17 and a price-to-book of nearly three.
PowerShares FTSE RAFI Emerging Markets Portfolio
Just as FEP faces intense competition in the market for diversified Europe ETFs, the PowerShares FTSE RAFI Emerging Markets Portfolio deals with the same situation among multi-country emerging markets ETFs.
With almost $388 million in assets under management and average daily volume of nearly 115,000 shares, calling PXH anonymous "obscure" is not accurate, but it is fair to say the ETF is not as well known as some diversified emerging markets funds.
Components for PXH are selected based on book value, cash flow, sales and dividends and weighted based on a fundamental score. That methodology can work in the right environment as PXH has returned about 8.4% over the past six months, but investors do need to do some homework before jumping in.
Since dividends are part of PXH's screening methodology, that means the ETF will almost certainly have large allocations to Taiwan and Brazil, two of the developing nations with solid dividend reputations. Not surprisingly, those two countries account for nearly 35% of the fund's weight.
Combine the dividend factor with the cash flow and book value screens and it would also be reasonable to expect Russia to loom large in this fund. That is the case because the government there has forced state-controlled enterprises to boost dividends.
Additionally, Russian firms have a reputation for being quite profitable, but also for trading at discounts
to peers in other developing markets.
Bottom line: Russia accounts for over 11% of PXH's weight and two Russian stocks – Gazprom
(PINK:OGZPY) and Lukoil
(PINK:LUKOY) – are the ETF's top two holdings.
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