VFMO: Inexpensive ETF Outperforming The S&P 500 And Peer Funds

seekingalpha05-01

Vanguard's U.S. Momentum Factor ETF has the ability to outperform the S&P 500 Index and peer momentum funds due to its quantitative holdings selection method.VFMO has a low expense ratio and strong ...

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href=https://seekingalpha.com/article/4687825-vfmo-inexpensive-etf-outperforming-sp-500-peer-funds><strong>seekingalpha</strong></a>\n\n\n</h4>\n\n</header>\n<article>\n<div>\n<p>Vanguard's U.S. Momentum Factor ETF has the ability to outperform the S&P 500 Index and peer momentum funds due to its quantitative holdings selection method.VFMO has a low expense ratio and strong ...</p>\n\n<a href=\"https://seekingalpha.com/article/4687825-vfmo-inexpensive-etf-outperforming-sp-500-peer-funds\">Source 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Digital Vision./DigitalVision via Getty ImagesInvestment Thesis Vanguard U.S. Momentum Factor ETF (BATS:VFMO) is a buy due to its ability to outperform both the S&P 500 Index and peer momentum funds through its holding selection process. The fund’s active management has resulted in broad diversification of market caps and market sectors that has resulted in strong performance with a relatively low expense ratio. Fund Overview and Compared ETFs VFMO is an actively managed exchange-traded fund, or ETF, that seeks to capture stocks with strong recent performance. The Vanguard fund uses a quantitative model to capture market cap and market sector diversification. This strategy aims to predict holdings with strong returns instead of “chasing” returns. With its inception in 2018, the fund has 591 holdings and $512.09M in AUM. VFMO is heaviest in the information technology sector at 27.00% weight followed by industrials (20.40%) and consumer discretionary (16.40%). For comparison purposes, other funds examined are the iShares MSCI USA Momentum Factor ETF (MTUM), the Invesco Dorsey Wright Momentum ETF (PDP), and the SPDR Russell 1000 Momentum Focus ETF (ONEO). MTUM is significantly heavier than VFMO on the IT sector at 43.72% weight. PDP is the least diversified fund with 101 holdings and includes predominantly large and mid-cap companies. ONEO has the greatest diversification with over 900 holdings. It is much less concentrated on technology holdings and is heaviest on industrials at 21.21% weight. Performance, Expense Ratio, and Dividend Yield VFMO has a 5-year average annual return of 15.0%. The Vanguard fund is the only momentum ETF examined that has market-beating returns as measured by the S&P 500 Index which has seen an average return of 14.9% over the past five years. By comparison, MTUM has a 5-year average annual return of 12.2%, while PDP has a 5-year average annual return of 12.1%, and ONEO a 5-year average annual return of 11.9%. This outperformance for VFMO is a credit to its selection methodology which will be broken down in greater detail later.   5-Year Total Price Return: VFMO and Peer Momentum ETFs (Seeking Alpha)VFMO has the lowest expense ratio of momentum funds compared at just 0.13%. However, this is actually on the higher end for a Vanguard ETF. Most sector-focused Vanguard funds have an expense ratio of 0.10% such as the Vanguard Information Technology Index Fund ETF (VGT). Vanguard’s popular S&P 500 Index ETF (VOO) has an expense ratio at an impressive 0.03%. Because VFMO’s holdings selection emphasizes growth, the overall dividend yield is relatively low at 0.67%. However, the yield for VFMO is roughly on par with peers and has been growing with a 5-year dividend CAGR of 7.4%. Expense Ratio, AUM, and Dividend Yield Comparison     VFMO MTUM PDP ONEO   Expense Ratio 0.13% 0.15% 0.62% 0.20%   AUM $512.09M $9.73B $1.21B $146.34M   Dividend Yield TTM 0.67% 0.82% 0.27% 1.37%   Dividend Growth 5 YR CAGR 7.39% -0.03% 24.72% 6.12%   Click to enlarge Source: Seeking Alpha, 30 Apr 24 VFMO Holdings and Its Competitive Advantages Due to VFMO’s high diversification of over 591 holdings, its top 10 holdings weight is low at 11.82%. Each of the momentum funds have very different objectives and methodologies for stock selection. As a result, their top holdings differ greatly. VFMO is most in common with MTUM’s top 10 holdings such as Broadcom Inc. (AVGO), Meta Platforms, Inc. (META), and Eli Lilly and Company (LLY). Top 10 Holdings for VFMO and Peer Momentum ETFs   VFMO – 591 holdings MTUM – 124 holdings PDP – 101 holdings ONEO – 911 holdings   NVDA – 1.33% NVDA – 6.61% ORLY – 2.83% MPC – 1.21%   AVGO – 1.30% AVGO – 5.91% MA – 2.81% BLDR – 0.97%   GE – 1.29% LLY – 5.13% CPRT – 2.68% CAH – 0.77%   LLY – 1.21% META – 5.13% CDNS – 2.56% RS – 0.70%   META – 1.17% AMZN – 4.71% TDG – 2.52% WSM – 0.69%   ANET – 1.15% MSFT – 4.47% APH – 2.50% FANG – 0.68%   NFLX – 1.12% AMD – 3.03% ROP – 2.38% CTSH – 0.67%   KKR – 1.12% COST – 2.97% WRB – 2.32% MCK – 0.67%   UBER – 1.09% CRM – 2.43% TRGP – 2.10% LRCX – 0.67%   PGR – 1.04% NFLX – 2.40% ELF – 2.00% PSX – 0.64%   Click to enlarge Source: Multiple, compiled by author on 30 Apr 24 VFMO’s comparatively stronger performance is driven by three characteristics of its active holding selection methodology. These characteristics are market sector diversification, diversification of market capitalization sizes, and its ability to capture momentum without high turnover. Advantage #1: Greater Market Sector Diversification The first advantage for VFGO is its greater market sector diversification. VFGO’s largest sector is information technology but it holds only 27% weight in this sector. By comparison, MTUM has 43.70% weight on information technology. This past week mega-cap big tech companies have reported generally positive earnings. However, the technology sector's strong one-year returns have resulted in high valuations. As a result, MTUM’s heavy weight on the IT sector has resulted in its highest valuation compared to peer momentum funds. VFMO has maintained a higher performance despite a lower weight on the IT sector. Given the high valuation for multiple mega-cap big-tech stocks currently, I applaud VFMO’s restraint to avoid chasing the sectors with greatest recent performance and remaining diversified. Advantage #2: Greater Market Cap Diversification The second competitive difference is VFGO’s greater market cap diversification. Examining the market cap distribution, VFGO is the most evenly distributed with 42% weight on large cap, 19% weight on mid cap, and 38% weight on small cap. By contrast, the other compared momentum funds are less diversified on market capitalization. PDP only includes 9% small cap while MTUM has 87% large cap. Additionally, ONEO is heaviest on mid cap at 60% weight. While large caps may typically offer greater stability with lower risk, small caps have greater capacity for strong growth. In fact, due to their attractive valuations, some have predicted that small caps could outperform large caps by the end of 2024. Therefore, this evenly distributed diversification with weight on both large and small cap is a strong advantage for VFMO. Advantage #3: Greater Momentum with Lower Turnover The third achievement for VFMO is its ability to more successfully capture the momentum that its name implies. In terms of performance, VFMO saw a 6-month total return 34.8%, 1-year total return of 31.17%, and 3-year total return of 14.03%. These values are all superior to compared momentum ETFs. VFMO has even been able to achieve greater momentum than Vanguard’s S&P 500 fund’s momentum over six month and one year time periods. Despite this performance, VFMO has a lower turnover than MTUM and PDP. Therefore, it is indicative to me that the fund does not “chase” returns but rather sticks to its quantitative selection process. Additionally, the lower turnover rate for VFMO may result in greater tax efficiency than peer funds. Current Valuation VFMO has seen a strong one-year return of almost 30%. This has outpaced the S&P 500’s one year performance of almost 23% and peer momentum funds. Despite this solid recent performance, VFMO still has a comparatively attractive valuation.   One Year Performance: VFMO and Compared Momentum Funds (Seeking Alpha)As measured by price-to-earnings and price-to-book ratios, VFMO’s metrics are lower than the average of its peers. I believe this is due to its diversification of market cap sizes and inclusion of a high number of mid and small cap holdings. Given VFMO’s strategy and selection method, I anticipate the fund to continue demonstrating strong performance while maintaining a relatively attractive valuation in comparison to peer momentum funds. Valuation Metrics for VFMO and Peer Competitors     VFMO MTUM PDP ONEO   P/E ratio 21.80 36.90 27.17 16.35   P/B ratio 4.20 7.87 7.44 3.05   Click to enlarge Source: Compiled by Author from Multiple Sources, 30 Apr 24 Risks to Investors Most ETFs that offer significant returns also have greater volatility. We see this predominantly in growth funds. However, this volatility is not as pronounced for VFMO. Examining beta value, an implied metric of volatility, VFMO has a beta of 1.03 compared to the Dow Jones U.S. Total Stock Market Index. This correlation is roughly on par with the market overall, despite higher returns, and is a credit to the fund’s sector and market cap diversification. While many actively managed funds risk chasing popular or high-performing individual holdings, VFMO has remained focused on its quantitative methodology for carefully selecting the best blend of holdings. Concluding Summary  Vanguard’s momentum fund has the two greatest qualities I look for in an ETF: strong performance and a low expense ratio. Additionally, the fund is broadly diversified in both sector and market capitalization. VFMO’s quantitative selection method has produced market-beating returns and even allowed the fund to maintain a relatively attractive valuation, as measured by P/E and P/B ratios. Therefore, I rate the fund a buy and look forward to watching its performance compared to both peer momentum funds and the market overall.","kind":"highlight","is_publish_news":true,"is_publish_highlight":false,"is_publish_live":false,"is_publish_wemedia":null,"editions":null,"column":"","sentiment":"0","news_tag":"","news_rank":0,"symbols":[],"gpt_button":1},"commentList":[],"isCommentEnd":true,"newsSizeData":{"likeSize":0,"commentSize":0,"repostSize":0,"favoriteSize":0,"likeStatus":false,"favoriteStatus":false},"APP":{"userAgent":"Mozilla/5.0 AppleWebKit/537.36 (KHTML, like Gecko; compatible; ClaudeBot/1.0; +claudebot@anthropic.com)","isDev":false,"isTTM":true,"deviceId":"web-server-community-laohu8-v3","version":"4.29.3","shortVersion":"4.29.3","platform":"web","vendor":"web","appName":"ttm","isIOS":false,"isAndroid":false,"isTiger":false,"isTHS":false,"isWeiXin":false,"isWeiXinMini":false,"isWeiBo":false,"isQQ":false,"isBaiduSwan":false,"isBaiduBox":false,"isDingTalk":false,"isToutiao":false,"isOnePlus":false,"isHuaWei":false,"isXiaomi":false,"isXiaomiWebView":false,"isOppo":false,"isVivo":false,"isSamsung":false,"isMobile":false},"href":"/m/news/2432593560"}