Category: Investing Insight

Investing insight to make you a better investor.

MSCI USA Momentum Index

In our previous post, Momentum: Peek under the hood before you invest, we compared a couple of momentum ETFs listed in the US. The most popular one, MTUM, was launched in April 2013. For an investor who is considering it, a five-year sample size is hardly enough. Thankfully, the ETF tracks the MSCI USA Momentum Index. And even though the index itself was launched in February 2013, MSCI has back-filled index levels going back from 1975.

USA Momentum vs. S&P 500 Annual Returns

msci-usa-mom.sp500.annual

USA Momentum vs. S&P 500 Cumulative Returns

msci-usa-mom.sp500.cumulative

It looks like the Momentum Index is highly correlated with the S&P 500 index and for a little bit more volatility, investors end up with quite a bit of excess returns. Does it make sense to swap out the staid old market-cap weighted SPY with MTUM?

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How long is long term?

Most new equity investors think “long term” is three years. Some think its five. This leads to expectations that are setup to fail. We wrote about projecting future returns recently where we showed how we expect 20-year returns to be statistically distributed. In the simulations that we ran for that article, we also projected returns for 10- and 30-year horizons. We reproduce the charts below.

10-year S&P 500 return distribution

SP500.GLD 10-year

20-year S&P 500 return distribution

SP500.GLD 20-year

30-year S&P 500 return distribution

SP500.GLD 30-year

As your investment horizon grows larger, the probability of you facing severe losses come down and the overall probability of positive outcomes increase.

Fama and French agree

In a recent paper, Volatility Lessons for the Financial Analysts Journal, Eugene F. Fama and Kenneth R. French pretty much arrive at the same result. Here are the charts from their paper:

And they conclude:

The high volatility of monthly stock returns and premiums means that for the three- and five-year periods used by many professional investors to evaluate asset allocations, the probabilities that premiums are negative on a purely chance basis are substantial, and they are nontrivial even for 10- and 20-year periods.

Basically, long-term is ~30 years, anything less that is prone to be influenced by noise (luck.)

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Country Equity Index Volatility

Previously, we saw how different country indices performed relative to their deepest drawdowns. Peak drawdowns only tell half the story. Here, we look at historical volatility. To keep things simple, we will define volatility as the standard deviation of daily returns. i.e., close-to-close volatility.

The country-ticker key can be found here.

2004 through 2018

NASDAQOMX.volatility

Year-wise

Bar plot:
NASDAQOMX.volatility.yearwise
Heat map:
NASDAQOMX.volatility.yearwise.heat

Thoughts

  1. The year 2017 was uniformly a low-volatility year. So were 2005 and 2014.
  2. Some countries, Greece (NQGRT) for example, have been extremely volatile. Some, Malaysia (NQMYT) for example, have been surprisingly less.
  3. India (NQINT) has been middle of the pack.

Code and charts on github.

Source: NASDAQOMX data from Quandl.

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Of GURUs and MOATs

If we had to point to one financial innovation that upended classical asset management over the last decade, it would be Exchange Traded Funds (ETFs.) At first, there were a handful of them. They were pure market cap weighted funds that mirrored a popular broad market index, the S&P 500 index for example. But over the last decade, the number of ETFs and the strategies they allow investors to access have exploded. Currently, there are over 2,200 ETFs listed in the US. Most of them are cap-weighted, some are “smart-beta”, some are traditional momentum/value, etc. But there are a few of them that are completely bonkers. Here are two of them.

The GURU ETF

Hedge funds, in the US, are supposed to disclose their holdings that cross a certain threshold to the SEC. The GURU ETF parses those filings and creates a portfolio of “highest conviction” ideas. From its website:

GURU allows everyday investors to access the high conviction investments of some of the largest, most sophisticated hedge funds in the world. Traditionally, investing with a hedge fund requires paying an ongoing 2% management fee and 20% of profits. GURU has an expense ratio of 0.75%, potentially allowing for greater cost efficiency, while providing access to hedge fund ideas.

On the face of it, it is a ridiculous idea. Hedge funds are much more than just long-only equity. Besides, the filings are done months after those funds have built a position in those stocks. So surely, it should be a disaster?

Compared to the broad-market Russell 1000 ETF from Vanguard, it is not so bad. Annualized returns for GURU and VONE were 12.09% and 13.40%, respectively. It seems to have out-performed initially then suffered a deep drawdown from which it staged a middling recovery. Is it a case of the rising tide of a bull market lifting all boats? Can’t say.

We still don’t like the idea but turns out that it was not a very bad one.

The MOAT ETF

All value investors ever want are “attractively priced companies with sustainable competitive advantages.” MOAT promises that for 48bps. Surely, it can’t be that obvious?

Annualized returns for MOAT and VONE were 12.73% and 11.67%, respectively. Back in May 2018, Elon Musk thought “moats are lame.” Not so lame, it turns out.

Epilogue

There are strong reasons for Indian investors to open a US brokerage account and diversify their holdings into dollar assets. ETFs in the US are cheap and cover a wide array of investment strategies – there are at least two for every one that you can think of. Make you move now!

Charts above were created using our Compare Tool. Check it out.

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