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U.S. market diversification with a U.S. Fundamental index ETF.


Does a Fundamentally weighted U.S. ETF diversify and complement a U.S. market cap-based ETF?

Compare Claymore’s CLU.C (Fundamentally weighted, U.S. market) to State Street’s SPY (market cap based, S&P 500).

It doesn’t.

State Street Global Advisors SPDRS.com S&P 500 market cap index ETF (SPY) MER 0.10%   Claymore U.S. Fundamental Index ETF (non-hedged)  (CLU.C) MER 0.69%  
Exxon Mobil 3.55% EXXON MOBIL 3.34 %
Apple 2.66% GENERAL ELECTRIC 2.53 %
General Electric 1.86% AT&T 2.04 %
Microsoft 1.77% CHEVRON 2.02 %
IBM 1.71% CITIGROUP 1.70 %
Chevron 1.64% BANK OF AMERICA 1.69 %
J.P. Morgan Chase 1.50% VERIZON 1.66 %
Procter & Gamble 1.48% CONOCOPHILLIPS 1.59 %
Wells Fargo 1.45% J.P. MORGAN CHASE 1.52 %
Johnson & Johnson 1.40% PFIZER 1.42 %

This fundamentally weighted U.S. index ETF is interesting enough … on its own … but not as a complement to an existing holding of U.S. market cap based ETF. It doesn’t offer enough differentiation to offset the characteristics (and, therefore, return pattern) of the S&P 500 index ETFs.

4 of the top 10 weights are the same (today). The top 20 are similar. The MER is 7x. There is little volume.

But the CLU.C ETF index is the FTSE RAFI U.S. 1000. If investors need exposure to smaller caps, then CLU.C has reach beyond the predominantly large cap S&P 500. (Another way Investors might get some smaller cap exposure is with Vanguard’s U.S. Large cap MSCI Prime 750 (VV) for 0.12%).

The claim from Claymore is:

“Fundamental Indexation decreases exposure to high P/E stocks during episodes of unsustainable P/E expansion. Therefore, this approach avoids over-exposure to the more overvalued stocks.”

At some point, Fundamental index ETFs will complement existing market cap based portfolio holdings.

Next time?

Does a GDP weighted index diversify a market cap index?

Doug Cronk, CFA is Manager, Investments for a Canadian Pension fund.

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4 Comments Post a comment
  1. Dylan #

    fantastic..thanks doug. research underweigh. certinaly is overwhelming out there but trying to keep it simple with index funds while I continue to learn….

    Like

    May 11, 2011
    • … Just like the mutual fund industry … the ETF providers are ‘over-serving’ customers … you’re right … too many ETFs to choose from … complexity always means more cost to you. Keep it simple.
      Cheers.

      Like

      May 12, 2011
  2. Dylan #

    Any thoughts on a simple ETF that follows S&P 500?

    Like

    May 9, 2011

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