RWK: Weighing Pros And Cons Of Revenue-Centered Strategy

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Despite looking for illustration concealed alpha recipes, smart-beta finance strategies simply did not unrecorded up to expectations successful a plethora of cases, which I person already discussed a fewer times successful my ETF articles connected Seeking Alpha. Momentum crossed simpler, top-heavy market-cap-weighted portfolios featuring bellwethers was excessively beardown and almost unrivaled astatine times, particularly pinch nan pandemic and ultra-easy monetary argumentation tailwinds successful nan mix, while investors successful typically costly, high-turnover smart-beta costs were nursing losses aliases watching their superior turn astatine a glacial gait astatine best.

However, past year, nan proponents of old-school market-cap weighting had an fantabulous chance to study nan downsides and limitations of this approach, pinch nan iShares Core S&P 500 ETF (IVV) and Invesco QQQ ETF (QQQ) having their pandemic-era gains crimped, while much blase and often value-tilted, slow-but-steady strategies yet deed their stride, modestly rewarding investors, aliases astatine slightest not declining arsenic heavy arsenic nan market.

Today, I would for illustration to supply an overview of nan Invesco S&P MidCap 400 Revenue ETF (NYSEARCA:RWK), a passively managed ETF looking astatine nan U.S. mid-cap equity echelon done nan lens of revenues, not marketplace values. My extremity is to elaborate connected nan advantages of this conveyance that hit nan S&P 500 ETF by almost 10% past year, besides paying owed attraction to its downsides, to determine whether it is worthy considering it now aliases not.

What do I for illustration astir RWK?

To statesman with, according to nan Invesco website, its finance strategy is to way nan S&P MidCap 400 Revenue-Weighted Index, a recalibrated type of nan S&P 400, pinch revenues being nan cardinal facet influencing a constituent's weight; nan 5% headdress is besides applied, astir apt to guarantee capable diversification.

When it comes to advantages, RWK is hardly different from nan Invesco S&P 500 Revenue ETF (RWL) which I discussed successful January. Back then, I highlighted that gross weighting intends a greater power of better-valued companies pinch immense income (Walmart (WMT) is an fantabulous illustration here) but mini gross and net multiples connected returns, which, successful turn, is supportive of market-leading capacity of specified smartly weighted portfolios erstwhile bears are successful power and maturation premia are being decimated because of nan sharply rising costs of capital; nevertheless, during recoveries, this tends to beryllium much of a drag.

Expectedly, RWK has its valuation characteristics adjacent to fantabulous arsenic players pinch nan largest revenues inhabit nan apical spots. For amended context, I created nan pursuing array comparing RWK's cardinal 10 holdings' weights and income they delivered successful nan past 12 months to nan aforesaid group wrong nan SPDR S&P MidCap 400 ETF (MDY).

RWK apical 10 holdings analysis

Created by nan writer utilizing information from Seeking Alpha, RWK, IWV

So, while TD SYNNEX Corporation (SNX), nan IT subordinate pinch nan largest gross successful nan full S&P 400 index, has a 2.9% weight successful RWK occupying nan first line, successful MDY, it accounts for measly 0.19%. Meanwhile, its cardinal finance (0.8%) is Fair Isaac (FICO), a financial services institution boasting a $17.2 cardinal marketplace headdress (rather generous by nan mid-cap standards, I would say); RWK allocated only 7 bps to it.

MDY apical 10 holdings analysis

Created by nan writer utilizing information from Seeking Alpha and MDY

Since we are discussing nan constituent that nan worth facet and gross weighting schema are intimately intertwined, I should statement that SNX has an A Quant Valuation grade, which is evidently not nan lawsuit pinch FICO which is apparently overpriced moreover compared to nan IT assemblage arsenic nan information beneath illustrate.

FICO Valuation Grade

Seeking Alpha

So, amended weighted names thin to climb to nan apical positions successful revenue-weighted portfolios, while those pinch overstretched multiples person higher chances of becoming awesome positions successful market-cap-weighted ones.

As RWK's weighted-average marketplace headdress stands astatine astir $6.97 billion, arsenic per my calculations, vs. MDY's about $7.2 billion, it is not astonishing that its net output is astatine 9% vs. nan S&P 400 index's 6.8%. It is again not by chance that complete 56% of nan holdings person a B- Quant Valuation people aliases amended vs. conscionable ~29.6% successful MDY.

Of course, uncompromising hardline worth investors whitethorn constituent retired present that nan discount is excessively small, and a 1.2x weighted-average Price/Sales besides looks a spot inflated. For them, I judge nan Invesco S&P MidCap 400 Pure Value ETF (RFV) is simply a conveyance to consider, arsenic erstwhile I discussed nan money in January, its net output stood astatine 11%. However, they should understand that nan higher nan net yield, nan weaker nan profitability profile; we will return to that shortly.

Next, RWK's returns are amazingly robust. The play I decided to return a person look astatine is June 2019 - January 2023 arsenic successful May 2019, Invesco (IVZ) acquired MassMutual plus guidance connection OppenheimerFunds, pinch nan reorganization of nan Oppenheimer S&P 400 Revenue ETF following.

Here, it hit RWL, MDY, and moreover IVV, trailing only Invesco S&P SmallCap 600 Revenue ETF (RWJ) that delivered astounding 52.6% full return successful 2021 bolstered by nan superior rotation, which is nan astir important contributor to its CAGR shown below.

Initial Balance $10,000 $10,000 $10,000 $10,000 $10,000
Final Balance $18,071 $15,368 $15,728 $16,754 $21,473
CAGR 17.51% 12.43% 13.15% 15.11% 23.17%
Stdev 28.18% 23.33% 19.69% 20.14% 32.28%
Best Year 33.90% 24.21% 28.76% 29.82% 52.56%
Worst Year -8.19% -13.28% -18.16% -6.02% -10.97%
Max. Drawdown -36.33% -29.63% -23.93% -24.12% -37.95%
Sharpe Ratio 0.68 0.58 0.67 0.75 0.77
Sortino Ratio 1.05 0.86 1.04 1.2 1.33
Market Correlation 0.92 0.95 1 0.96 0.81

Created by nan writer utilizing information from Portfolio Visualizer

To contextualize, during these 44 months, RWK grossly outperformed MDY, beating it 28 times; its returns were only softer during pandemic-torn 2020 erstwhile it trailed nan S&P 400 ETF by astir 2.7%. Uncoincidentally, successful 2022, it underperformed its simpler adjacent only 4 times, namely successful June, July, September, and December.

RWK, MDY analysis

Created by nan writer utilizing information from Portfolio Visualizer

What is RWK’s Achilles heel?

There are a fewer notable disadvantages investors should guarantee they understand earlier going agelong RWK.

Expectedly, nan mid-cap operation has a fewer vulnerabilities successful position of quality. In fact, it is not arsenic burdened by low-quality stocks arsenic RFV, for example, yet only 61% of nan holdings person a B- Profitability people aliases higher vs. 73.6% successful MDY, truthful nan risks related to anemic margins and inadequate superior ratio are a spot higher.

Another remark worthy making is that RWK portfolio has a ample dispersed betwixt weighted-average Return connected Equity and Return connected Assets, arsenic per my calculations, ~26% vs. 6.8%, pointing to nan indebtedness rumor (large borrowings trim book worth and inflate ROE) apt being nan apical contributor to elevated ROE. Upon deeper inspection, I recovered retired that 42% of nan firms (ex-financials) person a Debt/Equity of 100% aliases higher, truthful nan consequence is evidently skewed.

Also, investors who are for immoderate logic skeptical astir top-heavy portfolios should statement that nan awesome 10 holdings relationship for complete 19% successful RWK and only 5.6% successful MDY.

Besides, different rumor pinch nan money is its comparatively precocious expense ratio of 39 bps; however, liquidity looks adequate.

Final thoughts

RWK is simply a smart-beta finance conveyance pinch an accent connected mid-caps pinch larger revenues. In nan existent iteration, it is overweight successful nan user discretionary (23.6%), industrials (19%), and IT sectors (14.3%); MDY favors industrials (over 20%), financials (14.9%), and user discretionary (14.5%).

RWK should entreaty to worth investors seeking a operation of comparatively capable multiples and decent value successful nan mid-cap echelon. As we person seen successful nan lawsuit of RFV, maximalist worth investing successful astir cases intends overweening vulnerability to companies pinch utterly lackluster profitability. RWK has an separator present arsenic it has comparatively adequately balanced both.

RWK delivered fantabulous returns successful nan past arsenic illustrated supra but unfortunately, I americium not convinced capable arsenic I personally would for illustration to spot a amended value profile. So, RWK earns a Hold rating.

This article was written by

Vasily Zyryanov floor plan picture

Vasily Zyryanov is an individual investor and writer.He uses various techniques to find some comparatively underpriced equities pinch beardown upside imaginable and comparatively overappreciated companies that person inflated valuation for a reason.In his research, he pays overmuch attraction to nan power assemblage (oil & state supermajors, mid-cap, and small-cap exploration & accumulation companies, nan oilfield services firms), while he besides covers a plethora of different industries from mining and chemicals to luxury bellwethers.He firmly believes that isolated from elemental profit and income analysis, a meticulous investor must measure Free Cash Flow and Return connected Capital to summation deeper insights and debar sophomoric conclusions.While he favors underappreciated and misunderstood equities, he besides acknowledges that immoderate maturation stocks do merit their premium valuation, and its an investor's superior extremity to delve deeper and uncover if nan market's existent sentiment is correct aliases not.

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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