Comparing Financial Sector Index ETFs: Does Anything Make Them Special?

I remember being a tad confused by PowerShares' listing of two different product lines of sector ETFs. One is in conjunction with Rob Arnott's fundamental indexing and the other is the Intellidex method that has generally been successful.

I would be hard pressed to explain the difference without just BS-ing you.

The chart below compares financial sector ETFs: the Arnott version (PRFF), the Intellidex version (PFI) and the Financial Sector SPDR (XLF). You can decide for yourself whether performance difference is enough to matter.

click to enlarge

There are some composition differences, which is a bit of a surprise to me. I figured Citigroup (C), Bank of America (BAC) (client holding) and JP Morgan (JPM) would be the top three holdings in each fund. Well, that is the case with XLF (actually, American International Group, (AIG) is number three and JP Morgan is number four). PRFF is similar with C, BAC and JPM as the top three, but with smaller weights than in XLF. PFI is unique in that none of the megacaps are in the top ten, but BAC is close. Maybe the reduced mega cap exposure is what has caused it to lag in the last few months.

PFI's average market cap is $21 billion and for PRFF it is $76 billion. I am not sure the Intellidex method will allow for the market cap to ever be like the other funds, if not then it will always look different which might be a good thing.

For now the market does not care about these; the average volume for PFI is 7300 shares and for PRFF it is 996 (that is not a typo). I was not able to find info about how much is invested in these funds but it is probably not much.

For what its worth the Rydex Equal Weight Financial Fund (RYF), which I think is the newest sector product, averages 32,000 shares traded. This is probably because it really does capture something different or at least that is the perception created. I could not find the average market cap of RYF on the Rydex site but I would not be surprised if it was similar to PFI.

I have been of the opinion all along that there would be a lot of funds that don't bring a lot to the table, and for now it looks like PFI and PRFF should be added to that list. It makes sense to look under the hood a little bit as was done here but I don't see these adding much value now.

Comments

[ETF Wanderer]

Roger,

The article you have written covers a very relevant & serious issue that is faced by many investors (including me). I think a few of them could add some value over a longer horizon say 1 year (and many like me are a bit longer term guys thanks to the lower US long term cap gains!).

One of solution that I have tried to do is (although far from perfect & with problems of its own) is to use the corresponding underlying indices to make the decision. The assumption is that the ETFs will track them more closely.

Between the FRUSF Index (underlying Index for PRFF) and IXM Index (underlying Index for XLF), the comparison is a bit easier to their longer historical data. They have a common history from 12/31/1999 onwards and some statistics for the period 12/31/1999 to 11/30/1999 based on data from Bloomberg are:

FRUSF (PRFF) IXM (XLF) Long FRUSF-Short IXM (1:1)
Returns (Avg Ann.) 12.1% 5.9% 5.5%
St Dev (Avg Ann.) 15.4% 16.9% 3.2%
Ret/St Dev 0.78 0.35 1.71
Max Drawdown -18.5% -30.0% -3.3%

So, it seems at first glance that PRFF could be better than XLF. Unfortunately, it seems like that the Alpha (or excess-returns) of PRFF over XLF, has been really coming down over time and on a rolling YoY basis, the excess returns are currently around only 0.40% annualized (not monthly!).

Given the annual expense rations of PRFF versus XLF, 0.70% - 0.24% = 0.54% > 0.40%, & with the gradual decrease of Alpha features of PRFF, one might be currently better off holding XLF than PRFF.



One big issue with many of the PowerShares/WisdomTree... etc ETFs is that the extensive history of their corresponding underlying Index data is not available with most data vendors. So I'm unable do any analysis on PFI and RYF though.


(p.s. BTW, I don't work for any of the ETF firms and neither hold any financial ETFs till now. )

[RogerNusbaum]

great stuff, thank you

[David Banash]

It would be interesting to see how financial sector no-load mutual funds such as the FBRFX and FBRSX and the closed-end Financial Fund FF (which I own) perform in this comparison.