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FXZ: Looks Strong, But Exposed To Bear Market Risks

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The First Trust Materials AlphaDEX ETF's (NYSEARCA:FXZ) action criteria involves highly quantitative methods that consequence successful nan observant action of holdings, which I find impressive. FXZ has a fewer unexpected advantages, specified arsenic precocious trading volumes, greater assets nether management, and diversification - despite it being a sector-specific fund. I for illustration nan capacity and early outlook of nan high-weighted holdings, and that makes maine judge their maturation will positively effect nan fund's performance. However, volatility is simply a interest and creates uncertainty arsenic to whether nan money will guidelines beardown aliases stumble if nan carnivore marketplace hits hard. As such, I complaint FXZ a hold.

Strategy

This is an ETF that intends to way nan gains of nan Strata Quant Materials Index, which was created by selecting companies from nan materials assemblage based connected circumstantial action criteria from nan Russell 1000 Index. These criteria impact a highly blase quantitative strategy to delegate weights and rankings to holdings based connected a group of maturation and worth factors.

Holding Analysis

FXZ has astir 40 holdings dispersed crossed 4 industries, pinch attraction astatine nan apical astir 54% successful chemicals, followed by nan remainder arsenic shown below:

ETF website data

FXZ Industry Exposure (First Trust)

With a small much than 45% of FXZ's full assets successful nan apical 10 holdings and nary awesome quality (greater than 2%) betwixt immoderate 2 holdings among nan apical 10, this money looks well-balanced. Although nan holdings beryllium to 1 sector, basal materials, nan clients of those companies aren't individuals. They are often different businesses that beryllium to various different sectors. Therefore, FXZ is exposed to assemblage diversification successful position of end-use markets, and nan demand-specific consequence and attraction consequence are mitigated to immoderate extent.

holdings information of nan fund

FXZ Top 10 Holdings (Seeking Alpha)

The apical 2 holdings are alloy giants and proviso alloy to various types of businesses passim America. One of those apical holdings is Nucor Corp. (NUE), which happens to beryllium nan world's 15th largest alloy producer, is complete 80 years old, and is simply a beardown and stabilized business successful this sector.

Strengths

The constituents of FXZ are selected from nan basal materials assemblage successful nan Russell 1000 Index. This intends that each of FXZ's holdings are large-cap companies. Having that benignant of large-cap vulnerability acts arsenic a support for value volatility erstwhile compared to overmuch smaller stocks. This tin trim nan effect of marketplace risks, arsenic these stocks are much unchangeable and mature than their smaller peers. This is besides nan logic why FXZ has viable liquidity and assets nether guidance of complete $1.7B. Supplementing that is nan regular dollar measurement (of 3 months) astatine $11.8M. That's overmuch higher than nan ETF median ($1.8M) and is uncommon, particularly successful nan sector-specific ETFs category.

As mentioned above, end-user marketplace diversification is 1 of nan biggest strengths of this fund. The chemic manufacture that makes up much than half of nan money has balanced consequence itself, arsenic not each of nan sectors (from which nan chemic manufacture draws its demand) are affected nan aforesaid by economical conditions. The money besides has immoderate vulnerability successful nan precious metals industry, which acts arsenic a hedge for business metals and chemicals, arsenic they are negatively correlated. When request for houses and cars goes down, it inversely increases for golden and silver, and companies for illustration Royal Gold, Inc. (RGLD), Newmont Corp. (NEM), and SSR Mining, Inc. (SSRM) (all FXZ holdings) use from this.

Weaknesses

FXZ has a precocious disbursal ratio of 0.61% compared to each related ETFs, wherever nan median lies astatine 0.48%. When compared to peers who person a akin style of investing, this money has nan highest disbursal ratio among each of them. Related peers are shown successful nan array below:

peer info

FXZ Peer comparison (Seeking Alpha)

This ETF does not person world diversification arsenic it focuses connected U.S. equities only. While these are mostly large-cap stocks and connection stability, 1 downside is that they cannot seizure nan maturation opportunities coming from mid- and small-cap stocks. Lack of assemblage diversification makes FXZ susceptible to risks faced by nan basal materials assemblage arising from bottlenecks and disruptions successful nan proviso chain, precocious labour costs, and nan antagonistic effect of economical conditions for illustration inflation, precocious liking rates, and recession.

Opportunities

In nan existent economical scenario, wherever ostentation is rising and truthful are liking rates, nan precious metals manufacture is seeing caller maturation opportunities. There often exists a nonstop narration betwixt liking rates and golden - erstwhile rates summation group for illustration investing successful tangible commodities for illustration gold, whose worth is perceived to admit complete nan agelong term. The capacity of a mates of awesome holdings - specified arsenic Westlake Chemical Corp. (WLK), which accounts for astir 5% of assets, and Albemarle Corp. (ALB), astatine adjacent to 3% of assets - has been exceptionally beardown during nan past year, helping this ETF outperform nan S&P 500.

ChartData by YCharts

Moreover, nan early is optimistic for some chemic companies, arsenic Westlake has incoming request from infrastructure spending connected projects for illustration municipal h2o systems, cultivation irrigation, and world transportation. Also, FXZ will greatly use from nan precocious request for EVs, arsenic each electrical vehicles tally connected lithium batteries. 41% of Albemarle's gross comes from nan accumulation of lithium, making it nan largest supplier of this material.

Threats

As FXZ focuses connected maturation and worth stocks, nan dividend payout is lower. This money has a output of astir 1.4%, while that of S&P 500 is 2%. This does not fare good for investors hoping to use from quarterly distributions.

Meanwhile, nan modular deviation for this ETF has been adjacent to 40%, while nan median stands astatine astir 24%. A beta of 1.35 mixed pinch nan maximum drawdown (in 5 years) of 49% looks alarming, different than for very risk-tolerant investors aliases those who strictly limit their position size allocation to FXZ wrong a broader portfolio.

Conclusions

ETF Quality Opinion

There is simply a batch to for illustration astir this ETF, particularly nan factors mentioned supra that make it unsocial and interesting. FXZ's end-user marketplace diverseness and vulnerability to large-cap, unchangeable stocks make it a compelling prime for maine to way going forward. The ample liquidity of this money only serves to summation my liking successful it.

I'm funny to spot if nan opportunities mentioned supra outweigh nan threats. For those reasons, I americium including FXZ connected my watchlist.

ETF Investment Opinion

Although I judge FXZ has a batch of positives, 1 antagonistic makes maine uncertain of nan early performance. The precocious volatility increases FXZ's consequence erstwhile it comes to existent marketplace downtrends; that's nan only logic I complaint this money a clasp for nan clip being.

This article was written by

Neha Jachak floor plan picture

Joined Sungarden Investment Publishing arsenic an Investment Research Intern successful Spring 2023. I clasp an MBA grade pinch a specialization successful Finance - 2016 and person worked arsenic a Financial Manager for 5 years. Currently pursuing MS successful Finance from Stevens Institute of Technology and aspire to go a Financial Analyst upon graduation. Closely associated pinch writer Modern Income Investor.

Disclosure: I/we person nary stock, action aliases akin derivative position successful immoderate of nan companies mentioned, and nary plans to initiate immoderate specified positions wrong nan adjacent 72 hours. I wrote this article myself, and it expresses my ain opinions. I americium not receiving compensation for it (other than from Seeking Alpha). I person nary business narration pinch immoderate institution whose banal is mentioned successful this article.

Editor: Naga



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