AVUV: Best-Performing Value ETF, Diversified Holdings, Cheap Valuation

Summary

• Value stocks and funds have outperformed all year.
• AVUV is one of the best-performing value ETFs of the year, and since inception.
• An overview of the fund follows.
• This idea was discussed in more depth with members of my private investing community, CEF/ETF Income Laboratory. Learn More »

IvelinRadkov

Author's note: This article was released to CEF/ETF Income Laboratory members on August 12th, 2022.

Value has outperformed all year, as skyrocketing inflation, worsening economic conditions, and rising interest rates have brought frothy growth valuations back to earth. Value funds have seen their strongest relative performance in years, with the Avantis U.S. Small Cap Value Fund (NYSEARCA:AVUV) achieving particularly outstanding results. AVUV has outperformed relative to most, if not all, major value funds and U.S. equity indexes for the past year, and since inception too. AVUV's performance is mostly due to consistent generation of alpha: the fund picks the right industries and stocks, at the right time. AVUV is also reasonably well-diversified and, obviously, sports a cheap valuation.

AVUV's diversified holdings, cheap valuation, and strong performance track-record, make the fund a buy. AVUV only yields 1.5%, and so is not an effective income vehicle.

AVUV - Holdings Analysis

AVUV is an actively-managed U.S. small-cap value ETF. Some actively-managed funds are quite concentrated and lack diversification, but that is most definitely not the case for AVUV. The fund's investment management team aims to construct a portfolio with index-like diversification, and they have (mostly) succeeded. AVUV's holdings are incredibly well-diversified, with investments in hundreds of securities, and exposure to all relevant industry segments. Concentration is quite low too, with the fund's top ten holdings accounting for under 10% of its value.

AVUV

AVUV

As with most other value funds, AVUV is currently overweight cheap, old-economy industries like financials and industrials, while being underweight frothy, expensive tech.

AVUV is an incredibly well-diversified fund, more or less as diversified as the average U.S. equity index, including the S&P 500 (which has fewer holdings). Diversification reduces portfolio risk, volatility, and the possibility of substantial losses or underperformance due to an underperforming holding, all significant benefits for the fund and its shareholders.

AVUV is a small-cap equity fund, and so the fund's holdings are, well, relatively small. As an example, Triton International (TRTN), the fund's largest holding, has a market-cap of $4.0B. Most well-known U.S. equities, as well as most of the holdings of most well-known U.S. equity indexes, have market-caps in the hundreds of billions.

AVUV's holdings are significantly smaller than average, as one would expect from a small-cap fund. They are also smaller than the average small-cap equity index fund, so it seems that the fund's managers are really targeting smaller, less well-known issuers.

ETF.com - Chart by author

As AVUV does not invest in large-caps, the fund's holdings materially differ from those of most U.S. equity indexes. Indexes like the S&P 500 or Nasdaq-100 invest quite heavily in Apple (AAPL), Microsoft (MSFT), JPMorgan Chase (JPM), Johnson & Johnson (JNJ), and similar companies. AVUV does not invest in these and other large-cap U.S. equities, only in smaller companies. As AVUV's holdings materially differ from those of most U.S. equity indexes, the fund's performance could materially differ from that of said indexes as well. There is quite a bit of risk here, as AVUV could easily post significant losses even as U.S. equity markets post gains, as the fund simply does not invest in most of the holdings which comprise said markets.

U.S. equity markets are, in a sense, mostly comprised of large companies, like Apple and Microsoft. As AVUV does not invest in these and other large-cap U.S. equities, and so does not provide investors with diversified exposure to the U.S. equity investable universe or market.

In my opinion, although AVUV is quite diversified, the lack of exposure to large-cap U.S. equities make it an inappropriate core portfolio holding. AVUV could supplement an investor's equity portfolio or holdings, but these should mostly be comprised of funds with greater large-cap equity exposure.

AVUV - Cheap Valuation

AVUV is a small-cap value ETF, investing in industries companies trading with relatively cheap prices and valuations. As the fund is actively-managed, security selection and weights are ultimately a management decision, subject to management discretion. From what I've seen, the fund focuses on companies with relatively cheap book to price ratios, usually referred to as price to book, and low earnings to book ratios. The latter is a relatively uncommon valuation metric, but a perfectly valid one too. AVUV does score relatively well in these two metrics, as expected.

AVUV

The fund also scores relatively well on PE and PB ratios, two more traditional valuation metrics.

AVUV

Stocks with low share prices and cheap valuations can experience significant capital gains and market-beating returns, contingent on valuations normalizing. Conditions are such that this is a distinct possibility, in my opinion at least. Some context first.

Value stocks have, by definition, lower share prices and cheaper valuations than average. Although this is always the case, value stocks are looking particularly cheap right now. As per JPMorgan, value stocks are currently around 10% cheaper than their historical average. Growth stocks are marginally more expensive than average, while the stock market as a whole is very slightly cheaper than average. The valuation gap between value and growth is currently elevated, although it was wider earlier in the year, and during the dot-com bubble.

J.P. Morgan Guide to the Markets

Significant, unprecedented valuation gaps rarely persist for long, and when they narrow, value stocks outperform. Importantly, and as can be seen above, valuation gaps have already started to narrow. Value stocks were cheaper, and growth stocks were more expensive, earlier in the year. Valuations have started to normalize since, during which AVUV, and most other value funds, have outperformed, as expected.

Data by YCharts

Value stocks remain significantly cheaper than their historical average, so further outperformance is likely, in my opinion at least. As economic conditions, investor sentiment, and corporate earnings continue to improve, outperformance should take the form of higher capital gains, not just loss minimization, as has been the case YTD.

AVUV's cheap valuation could lead to significant capital gains if valuations were to normalize, as has been the case YTD, an important benefit for the fund and its shareholders.

AVUV - Outstanding Performance Track-Record

AVUV's diversified holdings and cheap valuation are important, but common, benefits. There are simply many diversified value index ETFs out there, including several targeting specific market niches. The Vanguard Small-Cap Value ETF (VBR), for instance, invests in U.S. small-cap value stocks, same as AVUV.

AVUV's most important differentiator, what sets the fund apart from its peers, is its outstanding performance track-record. AVUV outperforms small-cap value indexes during bull markets, and when economic and industry conditions are favorable. AVUV tends to match the performance of these same indexes during bear markets, and when conditions are not so favorable. There is an asymmetry here, with the fund sometimes outperforming, but rarely underperforming, relative to its peers. The end result is a fund which consistently outperforms relative to small-cap value indexes, and which generally outperforms relative to broader equity indexes.

Importantly, AVUV has moderately outperformed relative to the S&P 500 since inception, even as small-caps, value, and small-cap value stocks have all underperformed the same. AVUV has managed to outperform the S&P 500 during broadly unfavorable market conditions, a significant benefit for the fund and its shareholders.

Seeking Alpha - Chart by author

AVUV's outperformance is due to consistent generation of alpha by the fund's investment management team. AVUV tends to pick the right industries, and the right stocks, at the right time. As an example, the fund increased its energy exposure earlier in the year, just before energy stocks soared due to increased energy prices and improving investor sentiment.

Data by YCharts

AVUV's increased energy exposure led to above-average gains in prior months, benefitting investors, and helps to explain the fund's outstanding performance track-record. Importantly, the fund isn't just blindly / always overweighting energy, but tries to select weights based on industry and market fundamentals to ensure strong gains and outperformance. Energy underperformed before 2022, and yet AVUV was performing quite well in the years before, so the fund is simply not blindly overweighting energy regardless of underlying conditions, as that would have led to underperformance in prior years. Overweighting energy in early 2022 would have worked, and it did, in fact, work when the fund did so.

Data by YCharts

AVUV's strong performance track-record is a significant benefit for the fund and its shareholders.

Conclusion - Buy

AVUV's diversified holdings, cheap valuation, and strong performance track-record, make the fund a buy.

Analyst’s Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Comments

[Darthstrukt]

What are thoughts on it today? Time to add more?

[Carebest14]

Thanks for the info. I would be curious to compare AVUV to CALF, IUSS and RWJ over a longer period. All 3 also hit the value button. Nonetheless interesting. Thanks!

[Carebest14]

@Carebest14 Also, DFAT and DFSV.

[Term Limits For Parasites]

Good find & article