New ETF Targets Post-Modern Strategy

09/07/2016 10:00 am EST

Focus: ETFs

iSectors, which develops asset allocation strategies for professional investment advisors, has launched its first exchange-traded fund available for individual investors. Here, we talk with CIO Chuck Self about the new ETF, a "fund of funds" based on a post-modern portfolio strategy.

Steve Halpern:  Our guest today is Chuck Self, CIO of iSectors.  How are you doing today Chuck?

Chuck Self:  I'm doing well, Steve.  How about you?

Steve Halpern:  Very good.  Thanks for taking the time.  iSectors has developed 14 various managed account strategies including its flagship iSectors Post-Modern Portfolio Allocation Strategy.  Now I know that's a mouthful, but if you could share some background on iSectors in general and then specifically explain the strategy underlying the post-modern approach.

Chuck Self:  Yes.  iSectors was born out of a problem many financial advisors face and that is they think they can choose investment managers but find it difficult to invest with those that continue to outperform over time and our CEO and founder Vern Sumnicht had that same problem.

And after the 2000, 2002 market decline he came to the realization that he wasn't good at choosing managers that will outperform in the future so he took on a research project using the university professors to come up with a quantitative model that would be objective in nature to be able to help invest his client's money in his wealth management firm.

And out of that research was born the Post-MPT or Post-Modern Portfolio Theory strategy.  The strategy is based on modern portfolio theory but it comes up with a new better way to implement that theory.

The strategy objectively allocates and rebalances the portfolio among nine specific low correlated asset classes.  It's guided by a mathematical model that incorporates more than a dozen economic and capital market factors to do this -- and it objectively comes out with the allocations that we apply to client's accounts with the strategy.

Steve Halpern:  Now previously these strategies were used by professional advisors; however, iSectors has just recently launched the first iSectors ETF. Could you tell us about this new fund?

Chuck Self:  Well you are correct in that the strategies historically have been available only through financial advisors and the reason why that was the case was because they are very sophisticated strategies and we wanted to make sure that they were applied in the proper manner.  

iSectors is really an intellectual property firm.  All we do is license our work to platforms that professional advisors utilize but we also found out that many professional advisors are set up to invest only in mutual funds and ETFs so based on that knowledge and given that financial advisors are our clients we wanted to respond to them and give them this ETF.

We still believe that most of our growth is going to come from the use by financial advisors — but because our new ETF — the iSectors Post-Modern Portfolio Theory Growth ETF (PMPT) — is publicly out there on NASDAQ, individual investors are able to utilize it too.

The objective of the fund is the exact same as it is for the managed account strategy and that's to achieve investment returns that outperform the S&P 500 index with lower downside over a complete market cycle.

Steve Halpern:  The iSectors Post-Modern Portfolio Theory Growth ETF currently has about 30% of its assets in vehicles that would represent long-term treasuries such as the iShares 20+ Year Treasury (TLT) and the ProShares Ultra 20+ Year Treasury (UBT).  Could you explain these holdings fit in with the overall strategy of the fund?

Chuck Self:  As I said, the funds strive to outperform the Standard and Poor's 500 over time but there are times when the quantitative model behind this strategy believes it's too risky to be fully invested in equities.

So it buys long-term Treasury bond funds such as TLT and UBT because they are more attractive at that point in time. And right now we're in one of those times.  When the equity market becomes fair to undervalue again, it will become 100% equity portfolio like it is most of the time.

Steve Halpern:  Now you also hold some traditional income generating vehicles such as the Vanguard REIT ETF (VNQ) and the iShares US Utilities ETF (IDU).  What's the attraction of these sectors and are these typically found in your underlying portfolio?

Chuck Self:  Well again REITs have just recently eclipsed their pre-recession highs and the commercial real estate market is recovering nicely and we believe it's going to continue to do so.  

In the meantime, you could hold VNQ and get 3.25% holdings and participate in the recovery of the real estate market.  

We have begun to reduce our utilities holdings.  As you know the utilities has been the best performing sector this year.

And although the yield on IDU is about 3.75% and higher than most corporate bonds and other stock sectors, the valuation of a low growth sector such as utilities has become high relative to REITs and other high yielding sectors with significant growth possibilities.

So right now we are more positive towards REITs or in real estate than we are to utilities.

Steve Halpern:  Now you also have exposure to metals via holdings such as the Van Eck Vectors Gold Miners ETF (GDX) and you have additional exposure to energy through the iShares US Energy ETF (IYE).  What's the situation of these positions?

Chuck Self:  IYE is still 30% below its all-time highs while the market of course has hit new highs because it's been tied to energy prices which of course has very volatile over the past couple of years.  

We believe that oil demand and supply is close to being in balance and that as long as we don't go into a recession in the US or globally which we don't believe is going to happen, the demand for energy will increase and these stocks will appreciate.  

Because of the volatility in the energy sector, they have been not overvalued.  In fact they're probably undervalued and investors should make sure they have exposure to this sector.  Gold stocks are again -- like utilities -- another sector that we're starting to de-emphasize.  

Precious metals has been the best performing sector this year in the markets and with the concern that the US might start to raise interest rates -- that the Fed might start interest rates -- gold is likely to be more volatile until that's resolved.

So our modeling work is starting to have us de-emphasize the gold stocks and gold funds like SDPR Gold Trust (GDX).

Steve Halpern:  Now I hate to put you on the spot but this Post-MPT Growth is the first ETF launched by iSectors based on one of your allocation models and I was wondering if you might share information as to whether or not you expect to launch additional ETFs perhaps based on other allocation strategies that your firm provides.

Chuck Self:  You're not putting me on the spot.  I think I could answer that.  We have not filed with the SEC to launch additional ETFs.  We are focused at this point on PMPT and making sure that's a success for investors.  Once we feel that it is a success, then we'll look to see if there is a demand for another ETF based on another one of our 14 strategies.

Steve Halpern:  Again our guest is Chuck Self, CIO of iSectors.  Thank you so much for taking the time to explain the new ETF to us — and congratulations on the launch.

Chuck Self:  Well thank you very much Steve.  Happy to be with you.

By Chuck Self, Chief Investment Officer of iSectors

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