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Pump Profits with These Alpha-Generating ETFs

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After starting the year on a soft note, the broad U.S. equity market hit multiple highs on several occasions. This affirms the confidence that the market still has in its sixth year of ‘bull run’.

The market is showing greater resilience, trumping difficulties such as stretched valuations, geopolitical tensions in Ukraine and Iraq, signs of slowdown in China, sluggish Euro zone recovery, uneven domestic economic growth and uncertainty over the Fed policy. Given this, most investors may want to know the impact of this strong surge in the broad ETF world and how each ETF has benefited relative to its major benchmark index.  

One interesting way to find it out is by calculating a measure of outperformance (known as alpha) for every ETF. Alpha generally takes the volatility (price risk) of a fund and compares its risk-adjusted performance to a benchmark index (standard index). The excess return of the fund relative to the benchmark’s return is the fund’s alpha (read: Best ETF Strategies to Consider Now).

Before proceeding, investors should note that most of the funds do not generate alpha. This is because some ETFs include more risk in their portfolio than the benchmark index by investing in volatile or small cap stocks to generate higher returns. As a result, these ETFs might not perfectly track the specific benchmark and thus no alpha.

While there are a number of ETFs that have outperformed their benchmark index from the year-to-date look, we have highlighted three most alpha-generating equity ETFs. Investors seeking higher returns should definitely consider these products in their portfolio as these would continue to generate positive alpha as long as market continues to climb higher.

First Trust Consumer Staples AlphaDEX Fund ((FXG - Free Report) ) – Alpha 5.06%

This fund provides exposure to the consumer staples segment of the broad U.S. market by tracking the StrataQuant Consumer Staples Index. It follows an AlphaDEX methodology and ranks stocks in the space by various growth and value factors, eliminating the bottom ranked 25% of the stocks (see: all Consumer Staples ETFs here).

This approach results in a basket of 38 stocks that are well spread out across various components. Each security holds less than 5.4% of assets. About 44% of the portfolio is allocated to food products in terms of sector, followed by food & staples retailing (19.18%) and beverages (15.75%).

FXG is one of the popular and liquid ETFs in the consumer staples space with $1.4 billion in AUM and average daily volume of 312,000 shares. It charges a slightly higher fee of 70 bps per year and is up 12.18% in the year-to-date time frame. The fund has a Zacks ETF Rank of 2 or ‘Buy’ rating with a Medium risk outlook.

Guggenheim S&P 500 Pure Value ETF ((RPV - Free Report) ) – Alpha 3.89%

This ETF tracks the S&P 500 Pure Value Index, which offers pure exposure to the large cap value segment of the U.S. equity market. The fund is widely diversified across 119 securities as none of these makes up for more than 2.90% of total assets. From a sector look, the ETF is heavily concentrated on financials at 25% while energy and utilities round off to the top three spots with at least 16% share each.   

The product has accumulated around $1.1 billion in AUM and trades in volume of more than 231,000 shares per day on average. Expense ratio came in at 0.35%. RPV has added 11.69% so far in the year and has a Zacks ETF Rank of 2 with a Medium risk outlook (read: 3 Top Ranked Value ETFs to Buy Now).

ETRACS Wells Fargo MLP Index ETN () – Alpha 3.18%

Though this is an ETN option, it has outperformed the standard benchmark index by gaining nearly 17% so far this year. The product targets the master limited partnerships (MLP) corner of the U.S. energy segment and tracks the ETRACS Wells Fargo MLP Index.

The note failed to garner enough investor interest with AUM of just $15.2 million and sees a scanty volume of under 1,000 shares. MLPW charges 85 bps in annual fees and expenses (read: MLP ETFs: Great Picks for the Energy Sector?).

Below, we have provided the standard benchmark for the three funds that has been used to calculate the fund’s alpha:

ETFs Standard Index Alpha
FXG Russell 1000 Consumer Staples Index 5.06%
RPV S&P 500 Value 3.89%
MLPW Alerian MLP Index 3.18%

Bottom Line

It appears that bull market remains intact for the second half of this year based on encouraging economic trends, an accelerating job market and back-on-track housing sector. Investors seeking to ride out the surge could thrive by investing in the above-mentioned alpha-generating funds.  

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