Understanding
Index Strategy Box |
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| Index Strategy Box FAQs |
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| FAQs about Index Strategy Boxes™ |
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| What are Index Strategy Boxes™? |
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| Index Strategy Boxes™ are a valuable financial tool that classifies exchange-traded funds (ETFs), exchange-traded notes (ETNs), and other index based financial products by how they select and weight securities inside their index. Each box is graphically organized into nine grid shapes with each shape representing a different index strategy. |
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| Why are Index Strategy Boxes™ needed? |
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| Index Strategy Boxes™ are a major step forward because they allow investors and financial professionals to quickly distinguish between indexing strategies of ETFs, ETNs and other index based products. |
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| This innovative financial tool is rigorous and systematic in its approach to classifying ETFs. It reduces the time spent analyzing index based products and aims to improve investment decisions. |
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| How can Index Strategy Boxes™ help investors? |
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| By using ETFguide’s Strategy Box™ database, you can search, sort, and compare ETFs by their actual index strategy – not by how fund marketers have labeled these products. |
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| Also, instead of being limited to asset class or investment style comparisons, Index Strategy Boxes™ helps investors to analyze important financial metrics, such as the cost and performance of ETFs by their corresponding index strategy. |
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| Are Index Strategy Boxes™ the same as ETF ratings? |
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| No. Index Strategy Boxes™ do not attempt to rate the viability of an index strategy or to render an investment opinion about expected returns. Instead, Strategy Boxes™ uniformly organize funds according to their actual index strategy. This simplifies the analysis of ETFs, ETNs and other index based products. |
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| How are Index Strategy Boxes™ different from other financial tools? |
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| Most financial tools are generally limited to evaluating ETFs by their asset class or by their investment style (growth, blend, or value) and size (large, mid, or small). |
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| Index Strategy Boxes™ goes one step further by explaining the operation of the indexes behind the ETFs. The two simple factors for index classification are: 1) how securities are selected (passive, screened, or quantitative) and 2) how securities are weighted (capitalization, fundamental, or fixed weight). |
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| Using Strategy Boxes™ alongside other financial tools can assist in providing investors with a more complete picture. |
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| The FTSE RAFI index ETFs are classified as “passive”, yet they’re “fundamentally” weighted. How is it possible to categorize an index as both passive and fundamentally weighted? |
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| FTSE RAFI based ETFs select securities "passively" and those stocks are weighted "fundamentally". The RAFI based ETFs do not employ filters or quantitative methods to select securities. Rather, they use passive selection that combines cap weight and three other factors. That results in a selection that closely replicates indexes that are selected using only market capitalization. As such, from a practical standpoint, RAFI indexes are passive selection (not screened or quant). The main difference in RAFI indexes is in the weighting of stocks. The selected RAFI stocks use a multi-factor fundamental weight rather that capitalization weight. |
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| How do Index Strategy Boxes™ work for exchange-traded products linked to a single commodity or currency? |
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| There are several single security indexes in the commodities and currency markets. For example, the spot price of gold is the index used for some gold ETFs. Single security indexes are always considered to be passively selected and cap weighted. |
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| Can Index Strategy Boxes™ be applied to ETFs tracking bonds, commodities, and currencies? |
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| Yes. Index Strategy Boxes™ are a rigorous and uniform method for classifying ETFs – a system that works across multiple asset classes. |
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| With currencies, the single currency price becomes the index. It is a passively selected, cap weighted, single security index. |
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| In the Lehman Brothers Aggregated Bond Index, bonds are weighted by the size of the debt issue outstanding in relation to the rest of the bonds in the index. |
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| In the S&P GCSI Commodity Index, production is the factor that is used as capitalization in an attempt to estimate the impact each commodity has the global economy. |
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| Why are leveraged ETFs from ProShares and Rydex Investments categorized as fixed weight indexes? |
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| Fixed weighting can be at the security level, the industry level, or at the market level. When a fund is designed to achieve a return of 2 times the market, it has a fixed market leverage of "plus two." When a fund is short the market, it has fixed market leverage of "negative one". |
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| What’s the difference between screened and quantitative indexes? |
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| Screened indexes are created to eliminate securities that have unwanted characteristics or lack certain attributes. For example, companies that don’t pay a regular quarterly dividend are filtered out of dividend indexes. The remaining securities result in a screened index of dividend paying stocks. Another example of a screened index is one that selects stocks by its exchange listing. |
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| Quantitative indexes typically use advanced computer modeling that employ complex equations. The intent of quantitative selection is to identify securities that are believed to have superior return characteristics among the universe of securities they’re chosen from. Many of these indexes use hidden or proprietary formulas that aren’t fully disclosed to investors. |
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| How did the concept of Index Strategy Boxes™ originate? |
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| Index Strategy Boxes™ were pioneered and developed by Richard A. Ferri, CFA of Portfolio Solutions, LLC. The rapid growth of the ETF marketplace has lead to confusion and no clear cut methods for investment analysis. In
doing research for The ETF Book (John Wiley, 2007), Ferri saw the need for a categorization method. He created the classification and introduced it to the marketplace through his book and ETFguide.com in late 2007.
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| Index Strategy Box Fact Sheet |
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| Investor Benefits |
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Quickly identifies indexing strategies of ETFs and other index based products |
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Classifies ETFs by their indexing strategy |
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Lays groundwork for better portfolio construction and management |
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Easy to understand for both individual and professional investors |
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| Fact Sheet |
| The Methodology Behind Index Strategy Boxes™ |
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| Background |
| The explosive growth of the ETF marketplace has lead to the introduction of indexes that use alternative methods of security selection and capitalization weighting. The sheer number of financial products has been followed by confusion and no clear cut methods for investment analysis. |
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| New index strategies have become far too complex for traditional classification methods that rely solely on company size and investment styles. Index Strategy Boxes™ use a different approach in classifying ETFs: how securities are selected and how securities are weighted. This provides an immediate point of reference through a simple graphical display of what index based products are actually doing. Index Strategy Boxes™ were developed and pioneered by Richard A. Ferri, CFA of Portfolio Solutions, LLC. |
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| Building Better Portfolios |
| A clear understanding of how indexes are assembled and managed is imperative when constructing an investment portfolio of ETFs and index based products. Index Strategy Boxes™ allow for the informed evaluation and comparison of financial products based upon their actual indexing strategies – not by how they’re labeled by marketers. Investors wishing to manage exposure to different indexing strategies can reference Strategy Box™ classifications to get a precise picture of the resulting portfolio. |
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| For Financial Institutions |
| Index providers and investment managers have an important responsibility to investors. Among these responsibilities is to disclose and clearly communicate the index strategies behind their products. Index Strategy Boxes™ helps financial institutions to explain their products in a logical, meaningful, and uniform manner. The methodology also helps providers determine if they are pricing their products in-line with similar strategies. |
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| Giving Financial Context |
| Index Strategy Boxes™ are a major step forward in investment research. This tool can be seamlessly applied to index products in all asset classes and also provides much needed perspective in the analysis of important financial metrics, such as the cost, performance, and tracking error. It’s now possible to search, sort, and compare ETFs by their Index Box™ classification at ETFguide.com. This innovative financial tool reduces the time spent analyzing index based products and aims to improve investment decisions. |
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| Index Strategy Boxes™ |
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| Using Index Strategy Boxes™ |
| ETFguide’s Index Strategy Boxes™ are organized into nine grid shapes and each shape represents a different index strategy. |
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| The vertical axis categorizes index strategies into three broad security selection methods: passive, screened, and quantitative. The horizontal axis categorizes index strategies into three broad security weighting methods: market capitalization, fundamental, and fixed/equal weight. |
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| Index Strategy Boxes™ enables investors to quickly identify and distinguish the differences between index security selection and weighting strategies. This user friendly tool is easily applied to equity, fixed income and commodity indexes. |
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| » Security Selection Strategies and Sample Methods |
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| Passive |
Screened |
Quantitative |
| -- Full Replication |
-- Fundamentals |
-- Economic Cycles |
| -- Sampling Strategies |
-- Exchange Listing |
-- Fundamentals |
| -- Buy & Hold |
-- Thematic |
-- Momentum/Technical |
| -- Single Securities |
-- Social Responsible |
-- Multi-Factor |
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| The vertical axis of Index Strategy Boxes™ represents the primary strategy in the selection of securities ("security selection") from the financial markets. Indexes that fall into each category will typically have one of the security selection methods described above. |
| » Security Weighting Strategies and Sample Methods |
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| Capitalization |
Fundamental |
Fixed Weight |
| -- Full Cap |
-- Dividends |
-- Equal Weight |
| -- Free Float |
-- Financial |
-- Modified Equal |
| -- Constrained |
-- Security Prices |
-- Leveraged |
| -- Liquidity |
-- Momentum |
-- Short (inverse) |
| -- Production |
-- Qualitative Factors |
-- Long/Short |
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| The horizontal axis of Index Strategy Boxes™ represents the primary strategy in weighting securities (“security weighting”) within an index. Indexes that fall into each category will typically have one of the security weighting methods described above. |
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Security Selection +
Security Weighting = Index Strategy Boxes™ |
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| More Research |
| Further information about Index Strategy Boxes™ is available in The ETF Book by Richard A. Ferri, CFA. A complete database of ETFs and index based products organized according to this methodology is available at ETFguide.com. |
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| © 2007 ETFguide, LLC All Rights Reserved. |
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| 5 Reasons to use Index Strategy Boxes |
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| Five Reasons to use Strategy Boxes™ |
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| 1) Search |
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| ETFguide’s Index Strategy Boxes™ help you to find the exchange-traded funds (ETFs) you’re looking for. Now you can search funds by their actual index strategy – not by how they’ve been labeled by fund marketers. |
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| The two most important factors in evaluating an index are: 1) How does the index select securities (passive, screened, quantitative) and, 2) How does the index weight securities (market capitalization, fundamental, or fixed weight). Index Strategy Boxes™, the engine behind ETFguide’s online database, tells you the answer to these important questions. |
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| This powerful financial tool delivers consistent and reliable search results. |
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| 2) Sort |
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| Sorting through the fast growing ETF market has never been this intelligent. |
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| ETFguide’s Strategy Box™ database is the only place that allows you to sort funds by their asset class, fund category, product structure or index strategy. Other tools are limited to sorting ETFs by their market size, performance, or investment style. |
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| True to their robust capability, Strategy Boxes™ work across multiple asset classes including stock, bond, commodity, and currency indexes. In addition, this tool logically organizes not just traditional ETFs, but related products like ETNs and grantor trusts. |
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| 3) Compare |
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| ETFguide’s online database lets you conduct side-by-side comparisons of index products from a new perspective. Now you can compare funds in specific Strategy Box™ categories by important financial metrics such as, expense ratio, performance, and risk. Learn what the average expense ratio for all fundamentally weighted funds is versus market cap or fixed weighted ETFs. |
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| Index Strategy Boxes™ provide a simple yet rigorous foundation for the informed evaluation of ETFs and other index based products. |
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| Don’t be limited to traditional asset class or style box comparisons in analyzing ETFs. Broaden your perspective. |
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| 4) Research |
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| No other ETF tool tells you all the pertinent data you need to know. |
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| ETFguide’s database contains other key information such as: |
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- Basic index data (EX: Number of approximate holdings inside the index)
Fund product structure type (EX: Open-end ETF, ETN, grantor trust, and partnerships)- Index snapshots that clearly explain what the index does
- Mapping of security selection and weighting method of the index
- Index sampling or full replication method identified
- Rebalancing frequency of the index revealed
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| Cut the time you spend on investment analysis in half - do your ETF research like a pro. |
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| 5) See |
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| ETFguide’s Index Strategy Boxes™ help you to see the ETF marketplace with clarity. |
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| Strategy Boxes™ are a powerful visual aid to quickly identify and distinguish index strategies. Nine grid shapes are organized together and each shape represents a different index strategy. It’s easy to understand for both individual and professional investors. |
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| This powerful financial tool lays the groundwork for accurate investment decisions and better portfolio construction. Add it to your arsenal. |
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