Alpha-Oriented ETFs In A Beta-Dominated Stock Market

Includes: GXC, IWB, RWR, VTI
by: Gary Gordon

If I spent more time on Twitter, I might react to media commentary as follows:

1. Fundamentals? LOL! RT @YahooFinance. Investors now concentrate on fundamentals after weeks when Federal Reserve policies dominated markets.
2. Did not matter in Q1. RT @CNBC. This might be time when the market takes its lumps for not showing real sales growth.
3. Raising rates and strengthening currency? Better run to Japan or U.S. RT@DowJones. Turkey Signals Interest-Rate Rise.

One of the few market watchers who is calling a spade a spade is technical analyst, Walter Zimmerman. He explained that “…we’re in the terminal stages of a Bernanke-driven bubble.” I won’t say that I agree with the notion that we have entered the terminal stages — that may be far too bearish an assessment. Yet Bernanke-driven bubble hits the center of the dartboard’s bulls-eye.

The macro-economy is barely expanding. Gross domestic product (GDP) over the last 3 quarters has been roughly 0.4%. 1.8% and 1.1%… so slow that one has to question those in the economic improvement camp. The micro-economic corporate picture is experiencing deceleration in profits and stagnation in sales. Why should stock prices climb any higher with weakness in actual results as well as guidance that is likely to be particularly guarded? (Silly me, I forgot that the Fed intends to remain ultra-accommodative for the foreseeable future.)

One thing that Mr. Zimmerman missed in his descriptive phrase, the Bernanke-driven balloon, is the reality that he (or a successor) will only receive an appointment for a second term if he/she continues voting in favor of QE. Congress will not pass any stimulus bills before the November 2014 election. Heck, they could not even avoid sequestration. And that means… the Federal Reserve is the only game in town - the only body capable of propping up real estate, stock prices and big-ticket items like auto.

So if earnings mean very little, and if the Fed has no intention of slowing down bond purchasing or altering ZIRP (zero interest rate policy), do you stay aggressively allocated to U.S. stock ETFs? Do you hunt for bargain ETFs, or stick with the most popular names like S&P 500 Trust (NYSEARCA:SPY) and Vanguard Total Market (NYSEARCA:VTI)?

Broad-based, beta-oriented assets like Vanguard Total Stock Market and iShares Russell 1000 (NYSEARCA:IWB) make perfect sense, regardless of the reason(s) or the rationality of the uptrend. I would maintain a percentage chunk in client accounts until and unless the 100-day moving average fails to support respective prices. We can see how the 100-day supported VTI perfectly on the bounce off the June lows. Moreover, one does not have to sell everything should a broad-market asset breach the 100-day on the downside. You can sell a portion of your position, using the 200-day moving average for any additional profit taking/share liquidation.

For all the discussion of fundamentals, intelligent investors understand the benefit of controlling outcomes. Mechanical selling via stop-limit orders and trendlines removes the buy-n-hold biases that can lead to monstrous losses in one’s portfolio.

For those seeking alpha to add to the broad-based positions, it’s not particularly easy. One can make a case for SPDR S&P China (NYSEARCA:GXC). Not only does it trade at a significant discount to U.S. equities, but should the Chinese government choose to do so, they have far more wiggle room to stimulate a slowing economy than most developed world countries. With a 1-year correlation to VTI of a mere 0.25, one is getting a non-correlated asset that may be at an earlier stage in stimulus and/or economic turnaround.

SPDR DJ REIT (NYSEARCA:RWR) may also be worth a second look. The Fed fake-out that obliterated yield-sensitive assets between May-June has likely subsided. With the 10-year Treasury yield settling in and perhaps moving lower on economic weakness/safety seeking, real estate investment trusts are likely to recapture some of the mojo they experienced earlier in the year. A correlation of 0.50 over the prior 6 months is noticeably low for these asset classes.

Disclosure: Gary Gordon, MS, CFP is the president of Pacific Park Financial, Inc., a Registered Investment Adviser with the SEC. Gary Gordon, Pacific Park Financial, Inc, and/or its clients may hold positions in the ETFs, mutual funds, and/or any investment asset mentioned above. The commentary does not constitute individualized investment advice. The opinions offered herein are not personalized recommendations to buy, sell or hold securities. At times, issuers of exchange-traded products compensate Pacific Park Financial, Inc. or its subsidiaries for advertising at the ETF Expert website. ETF Expert content is created independently of any advertising relationships.