3 FlexShares Dividend ETFs Vary on Volatility

NEW YORK (TheStreet) -- Over the last few months Northern Trust has launched a suite of exchange-traded funds under the FlexShares brand name. The funds launched so far seek to offer slight tweaks on broad-based indices attempting to deliver a superior result. Very recently the firm listed three domestic dividend ETFs as follows:

  • FlexShares Quality Dividend Index Fund ( QDF)
  • FlexShares Quality Dividend Dynamic Index Fund ( QDYN)
  • FlexShares Quality Dividend Defensive Index Fund ( QDEF)

    The three funds are all dividend oriented variations on the same broad index, the Northern Trust 1250 which is a large-cap-, market-cap-weighted index along the lines of the Russell 1000, but obviously has 1250 underlying holdings.

    The difference between what the three dividend funds target is very subtle but QDF tries to capture the same beta as the Northern Trust 1250 but with a superior yield to the Northern Trust 1250. QDYN seeks a higher beta than the benchmark with a higher yield and QDEF seeks a lower beta with a superior dividend yield.

    The term beta is a measure of volatility where the broad index has a beta of 1.00, a stock or fund with a beta greater than 1.00 would be thought of as being more volatile and a stock or fund with a beta less than 1.00 would be less volatile. A higher beta is often desirable in a rising market but in a falling market lower beta tends to outperform.

    The construction of all three funds relies on "proprietary scoring model approach that determines a 'quality factor' and an optimization process that seeks to maximize this factor" and from there deliver the stated beta objective.

    It is not crystal clear from the sector weightings and respective top 10 holdings that there will be much difference between the three funds. The financial sector is the largest in all three funds in range of 19% each. Technology is the second largest in all three funds in the range of a 15% weighting. Utilities, telecom and materials are the three smallest sectors in fund with mid-single digit weights for all three sectors in all three funds.

    There is some differentiation in the other five big sectors -- each fund has 10 sectors.

    The three funds all have eight of their respective top 10 stocks in common albeit in slightly different weightings; the top 10 holdings comprise 27% to 29% of each fund. The eight common holdings include a lot of mega caps that typically show up in broad-based funds including Exxon Mobil ( XOM), Altria ( MO) and Microsoft ( MSFT).

    The FlexShares Web site did not provide results from any backtesting of these funds but it is reasonable to conclude they did test the funds and found enough of a difference in the results to conclude the fund suite would be useful to investors. That seems very unlikely though, given the extreme overlapping of the three funds.

    This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.

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