Rob Arnott is launching an ETF made up of stock index rejections


(Bloomberg) — Out with the new, in with the old.

At least that's the idea of ​​Rob Arnott's first exchange-traded fund — the Research Affiliates Deletion ETF — which, upon debut, will seek to buy companies that have recently been delisted from major indexes. The fund, which Arnott says is scheduled to launch next week, will trade below the NIXT price and hold companies for about five years – or until they re-enter a benchmark.

“What could be better than buying rejections?” Arnott, who is the founder of Research Affiliates, told Bloomberg TV. IQ ETF. “We've been playing this in our portfolios for a while now and decided, 'Why don't we make this available?'”

Arnott, an architect of the so-called smart-beta system of relinking traditional indexes in ways that limit the influence of giant companies, says that the stocks that get added to the major gauges tend to be “foamy, beloved, growth companies that are performing great , trading at high multiples.”

Those that have been kicked out are “deeply out of favour” and are typically down over 50% in the year before their ouster. But his past research, including data over the past three decades, shows that such stocks outperform the market by about 5% a year on a compounded basis.

The subject of index inclusion or exclusion is not new to Arnott. He has in the past researched how firms that were added to or subtracted from the S&P 500 performed in the months and years that followed. In a clear example, he called Tesla Inc. in 2020, saying it would be a drag on the S&P 500 after becoming the largest company ever added to the benchmark. The stock has been flat since its warning, though the benchmark gauge is up 50%.

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NIXT will track an index that is based on the adequacy methodology, but is comprised of US stocks of micro, small and mid-cap firms that are believed to be value stocks. The index is based on a mean reversion strategy that will include companies whose stock prices have fallen below a predetermined benchmark, among other criteria, according to a PRESENTATION with the Securities Commission.

Not all of his ETF members will be hits, Arnott admits. Some may go on to “achieve massive failure,” he said IQ ETF. “But all they have to do is overcome the bleak expectations to recover easily.”

It sees investors drawn to the strategy itself, or the ETF complements a portfolio by providing exposure to firms that index funds may not hold. He also sees some using it potentially as a replacement for small-value holdings “in a way that leaves out most of the potential value traps and has a chance to participate in big returns.”

A number of big name money managers and strategists have launched – or are looking to launch – their own ETFs, including economist Nouriel Roubini, Fundstrat's Tom Lee, Fairlead's Katie Stockton and others.

Most ETFs target a popular theme or theme, Arnott says. He is looking to take a different path.

“If you launch an ETF in an area that's deeply out of favor, unloved and cheap, it might not attract attention, but the chances of it having a great first 10 years are tremendous,” Arnott said. “As a lifelong contrarian, I like the idea of ​​introducing a strategy when it's at a near-record price.”

And he may not be done yet, he said. His firm may launch more ETFs in the coming months.

“We're always working on interesting ideas,” he said.



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