Equal Weight Portfolios: First among unequals
In 1896 Charles Dow first published the Dow Jones Industrial Average. Twelve stocks were included based on their prices. When Standard Statistics Co. acquired Henry Varnum Poor’s company in 1926, S&P’s first market capitalisation index was born. Fund investing evolved and tracking a market capitalisation index became conventional strategy...
In 1896 Charles Dow first published the Dow Jones Industrial Average. Twelve stocks were included based on their prices. When Standard Statistics Co. acquired Henry Varnum Poor’s company in 1926, S&P’s first market capitalisation index was born. Fund investing evolved and tracking a market capitalisation index became conventional strategy.
It’s time to break convention.
Last week Market Vectors released research proving that an investment portfolio following an equal weight index would have produced significantly higher long-term returns and better diversification than one following a traditional market capitalisation weighted index.
Read here: Strong foundations have equal footings.
Traditional benchmark indices were designed to be economic “barometers” of a market, i.e., something the media could quote or something that could be used as a measure of comparison. They were never intended to be “investable” as the basis of financial products, and their shortcomings as such are many:
- liquidity is generally not a requirement for inclusion;
- they hold many more securities than are required for good diversification; and
- they exaggerate the volatility of market sentiment.
Market Vectors’ paper identifies the main problem with market capitalisation indices as, by definition, the fact that they allocate more to bigger companies than to smaller ones. So when the market overvalues a stock, a fund tracking a market capitalisation index buys too much of the overpriced stock. Conversely, when the market undervalues a stock, the fund sells too much of the underpriced stock. The result is a negative impact on investment performance.
Key findings of the Market Vector’s white paper include:
- hypothetically, a $10,000 investment made in January 2003 in a fund that tracks the Market Vectors Australia Equal Weight Index would have been worth $30,304 in January 2013. The same amount invested in a fund tracking the S&P/ASX 200 Index would have been worth $27,910 over the same 10-year period;
- the Market Vectors Australia Equal Weight Index is three times more diversified than the S&P/ASX 200 Index;
- the Market Vectors Australia Equal Weight Index delivers tangible liquidity benefits including not having to buy the illiquid stocks at a premium and sell them at a discount, lower spreads and ease of implementation (resulting in lower costs and higher performance than traditional market capitalisation based indices); and
- surprisingly, contrary to conventional wisdom, turnover in an equal weight portfolio is within the generally accepted ranges.
An equal weighting portfolio outperforms market capitalisation because of three factors:
- higher exposure to smaller stocks rather than to bigger stocks;
- higher exposure to undervalued stocks and lower exposure to overvalued stocks; and
- better market timing, meaning better returns when markets are rising and less losses when markets are falling.
Equal weight indexing is particularly suited to Australian investors as Australia has one of the most concentrated equity markets in the world with the top 10 companies making up more than 50% of the top 200 listed securities by market capitalisation.
Market Vectors recently launched its Market Vectors Australian Equal Weight ETF (ASX code: MVW). It is the first and only Australian equity equal weight ETF available to Australian investors. MVW tracks the Market Vectors Australia Equal Weight Index, which currently provides investors with equal exposure across 76 of the most liquid ASX-listed securities.
We believe that Strong foundations have equal footings. As such, MVW is an optimal portfolio construction tool and an excellent starting point for a long-term diversified equities portfolio. With MVW as a core portfolio holding, investors can then add sector ETFs and individual stock positions to create an investment mix that reflects their own investment objectives and future expectations of the market.
For more information on MVW click here and speak to your financial adviser.
Important Notice: This information is issued by Market Vectors Investments Limited ABN 22 146 596 116 AFSL 416755 as responsible entity and issuer of Market Vectors Australian Equal Weight ETF (MVW) (‘Market Vectors’). It is general in nature and does not take into account any person’s individual objectives, financial situation or needs (‘circumstances’). Before making an investment decision you should read the product disclosure statement (PDS) and consider if the decision is appropriate for your circumstances. A copy of the PDS is available at www.marketvectors-australia.com or by calling the registry on 1300 MV ETFS (1300 68 3837). MVW is subject to investment risk, including possible delays in repayment and loss of capital invested. No member of the Van Eck Global group guarantees the repayment of capital, the performance, or any particular rate of return from MVW.
The Market Vectors Australia Equal Weight Index (‘Index’) is the exclusive property of MVIS. MVIS has contracted with Solactive AG (“Solactive”) to maintain and calculate the Index. Neither MVIS nor Solactive sponsor, endorse or sell any financial products to which MVIS licenses the Index. MVIS and Solactive make no representation regarding the advisability of investing in any financial products based on MVIS’ indices. Solactive uses its best efforts to ensure that the Index is calculated correctly. Irrespective of its obligations towards MVIS, Solactive has no obligation to point out errors in the Index to third parties
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