Beat The Benchmark

by: Tony Ash

Long-term strategic investing usually looks at the S&P 500 and the Bloomberg Barclays U.S. Aggregate Bond Index.

These two broad asset classes miss many sectors and asset weighting approaches that add diversification and extra return.

The current environment YTD has favored a broader mix.

Long-term strategic investing is usually baselined against naïve mixes of the S&P 500, as a proxy for a broad mix of large-cap U.S. stocks, and the Bloomberg Barclays U.S. Aggregate Bond Index (iShares Core U.S. Aggregate Bond ETF (AGG)), as a proxy for broad core bonds including U.S. government and investment grade corporate bonds. These broad naïve categories, however, miss many areas of the capital markets and optimized asset weighting that could provide extra diversification and additional return per unit of risk.

So far during 2019, some of the passive exchange-traded funds (ETFs) that are designed to track a broader selection and optimized mix of assets have added incremental return to naïve mixes of the S&P 500 and AGG.

Two equity ETFs that have done well are the iShares Edge MSCI Min Vol USA (USMV) and the iShares Edge MSCI USA Momentum Factor (MTUM). Both of these ETFs are structured to capture some of the “factor” anomalies that research has shown to outperform the naïve S&P over time. YTD through May 24, USMV and MTUM have returned 14.93% and 14.06%, respectively, whereas the S&P 500 (SPY) has returned 13.64%.

Real estate investment trusts (REITs) are a good asset class to help diversify equity exposures. An ETF that tracks that asset class is the Schwab U.S. REIT ETF (SCHH). Real Estate Investment Trusts tend to be a more risky subset of the equity space and have returned 17.26% so far in 2019, beating 13.64% of the S&P 500.

Another innovative ETF that helps diversify exposure is the AI Powered Equity ETF (AIEQ). This ETF uses artificial intelligence in the portfolio management process with a target to outperform the S&P 500 with a similar amount of risk. Year-to-date through May 24, this ETF has returned 17.74%, easily outpacing the 13.64% of SPY.

Likewise, selected carveouts of the fixed income space have easily beaten the AGG. While the AGG has returned 3.76% YTD, other fixed income sub-classes have added incremental return and diversified exposures. For example, preferred stocks (represented by iShares Preferred & Income Securities ETF (NASDAQ:PFF)) have returned 9.03%. Additionally, the high yield bond, investment grade corporate bond, emerging market bonds, and bank loans (tracked by HYG, LQD, EMB, and BKLN) have all outperformed AGG with 7.49%, 7.42%, 7.10%, and 6.44%, respectively, against the AGG of 3.76%.

In this environment, a broader diversification and optimized asset weighting approach will help portfolios to outperform the naïve S&P 500 and the AGG.

Disclosure: I am/we are long AIEQ. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.