FTA ETF: Attractive fundamentals, but a poor track record

FTA strategy

AlphaDEX First Trust Large Cap Fund (NASDAQ:FTA) began investment operations on 8/5/2007 and tracks the Nasdaq AlphaDEX Large Cap Value™ Index. It has 187 holdings, a total expense ratio of 0.60% and a 30-day SEC yield of 1.95%. Distributions are paid quarterly.

As described by First Trust, the methodology is based on the Nasdaq US 500 Large Cap Value™ Index. Only stocks classified as value stocks by Nasdaq are eligible for the portfolio. They are ranked based on a value score calculated using book value at price, cash flow at price and return on assets. The top 187 stocks are included in the underlying index and divided into quintiles based on their ranking. The top quintiles are given a higher weight, and stocks are weighted equally within each quintile. The index is reconstituted quarterly. The portfolio turnover rate in the last fiscal year was 80%. Thanks to focus on large caps, this article will use the S&P 500 index, represented by the SPDR S&P 500 ETF Trust (SPY).

FTA portfolio

FTA invests almost exclusively in US companies (over 99% of the asset value). The strongest sector by far is financials (22.7% of assets), followed by energy (12.8%) and utilities (12.4%). Other sectors are below 9%. Compared to the S&P 500, FTA heavily overweights these top three sectors, along with materials and, to a lesser extent, consumer staples. It largely underweights technology, healthcare and communications.

The top 10 holdings, listed in the following valuation ratio table, account for 9.9% of asset value, with the heaviest position weighing in at 1.13%. Consequently, the portfolio is well diversified and the risks related to individual companies are very low.

Click to enlarge

Reports: Portfolio123

FTA fundamentals

As expected from a value fund, FTA is much cheaper than SPY in terms of valuation ratios, as reported in the following table. Surprisingly, the growth characteristics are not far off the benchmark: earnings growth and sales growth are slightly lower, while cash flow growth is slightly higher. Most value funds have significantly lower growth rates (there are exceptions, though).

Click to enlarge

Source: Fidelity

Performance

Since 06/01/2007, FTA has underperformed SPY by 2.25% in annualized return. Additionally, maximum drawdown and volatility (measured as the standard deviation of monthly returns) show higher risk. However, the funds were close to parity until January 2018, after which FTA began to fall behind.

Click to enlarge

Data calculated with Portfolio123

The trend of underperformance has worsened recently – FTA has trailed SPY by about 8% over the last 12 months.

FTA vs. competitor

The following table compares the characteristics of FTA and five other large-cap ETFs:

• Vanguard Value Index Fund (VTV)
• iShares MSCI USA Value Factor ETF (VLUE)
• Fidelity Value Factor ETF (FVAL)
• iShares Morningstar Value ETF (ILCV)
• ETF Invesco Large Cap Value (PWV)

Click to enlarge

Data: Looking for Alpha

FTA has the highest fee, but also the highest 5-year dividend growth rate. The following chart shows the total returns, starting on 9/13/2016 to match all start dates. FTA is second to last, and FVAL is the best performer.

FTA is also the second worst performer in the last 12 months:

The differential ranking system may explain why FVAL has outperformed over the long term. Value funds (including FTA) typically rank all stocks on the same criteria, while FVAL uses a bank-specific value score.

Another weakness of value ETFs comes from the price-to-book (P/B) ratio, or in the case of FTA from “book value to price.” Historical data shows that companies with low P/B have higher volatility and higher draws on average than companies with low price/earnings, price/sales, or price/free cash flow. The following table shows the return and risk values ​​of the cheapest quarter of the S&P 500 (i.e. 125 stocks) as measured in price/book, price/earnings, price/sales and price/free cash flow. The sets are reconstituted annually in equal weight between 1/1/2000 and 1/1/2024.

Click to enlarge

Data calculated with Portfolio123

Take away

First Trust Large Cap Value Alphadex Fund selects and weights large US companies based on book value to price, cash flow to price and return on assets. It is more diversified across sectors and holdings than the S&P 500, with an emphasis on financials. The fundamentals look good: the valuation is attractive and the growth is not much different from the benchmark. However, FTA has outperformed the S&P 500 since 2007 and several other value ETFs over the past 8 years. In particular, the Fidelity Value Factor ETF is way ahead, possibly due to a banking industry-specific value score.