Lukas Ahnert, Senior Product Strategist for Xtrackers, discusses market performance and managing risk on ETF TV

Presented by Xtrackers by DWS.

Margareta Hricova Welcome to ETF TV, your insight into the world of exchange traded funds, issuers and investments. I’m Margareta Hricova and joining me today is Lukas Ahnert, Senior Product Strategist for Xtrackers and Deborah Fuhr. Welcome Lukas and Debbie.

Lukas Ahnert Thank you. It’s great to be here.

Deborah Fuhr Thank you. Lucas, it’s great to have you on the show.

Deborah Fuhr What do you see as the drivers of performance in the US market?

Lukas Ahnert Currently, we’re in a very interesting episode of the market. What we’re witnessing is that basically one of those big megatrends, artificial intelligence is getting prized and more and more appreciated by investors. It’s a very small group of companies, namely the Magnificent Seven or Great Eight. They are really the big beneficiaries of this trend, and they are able to translate that technology into earnings growth. So a lot of the total returns that we’ve seen across large cap U.S. indices, they are actually driven by much more fundamental strength and earnings growth most importantly and not so much a valuation expansion. And it has had very important implications for index based investors over the last couple of months. So if we look into the S&P 500, for example, that index is now basically very concentrated at the top levels that a top ten make up over 30% of that index now. And while last year investors really benefited from these developments, this year also then shed some light of some of the more idiosyncratic risks that now reside in that index. So overall, it is a fundamental growth story that’s driving the market strongly supported by these growing earnings. But at the same time, investors will be feeling the risks of increasing index concentration, especially on the idiosyncratic side. One of the big challenges going forward will be to manage those risks effectively.

Margareta Hricova In which investment strategies are investors adopting now to address some of the risks?

Lukas Ahnert One strategy that’s popular is actually equal weighting. It’s a very radical approach. So say for the S&P 500, an equal weighted strategy would literally allocate 20 basis points to every single of those constituents. If you look at the high level shifts that take place on equal weighted portfolios, it’s basically three big trends, right? It’s on the one hand side, big shifts in terms of sector allocation. So it’s no longer the index that’s dominated by IT or communication services. It’s much more those companies that are actually in number well represented in the index that then also show up more in terms of sector weighting, right, so this would be materials industrials etc. and you’re much more balanced across those. There are also big changes actually happening on the factor exposure side. Of course the size bias changes. It’s much more of an allocation towards the average company and hence the mid-cap company in the US. It’s also actually then implicating your value and growth tilts. So it’s more of a value strategy, much less of a growth strategy, because simply those big growth drivers, they’re now underweight in that strategy. And importantly that’s also a strategy that’s actually anti momentum with a frequent rebalancing up to an equal weight again. You are selling the winners and you’re buying the losers and that over longer periods has also been a very effective strategy. You also avoid a lot of those concentration risks in those magnificent seven names. So, overall, a very kind of comprehensive investment strategy. And for many this has been kind of like a one stop shop almost in terms of reducing index concentration and complementing existing large cap allocations in the US. Another big strategy where we’ve seen a lot of interest is actually in the theme of AI itself. And here, of course, the idea is to capture the theme, but to avoid some of the single name risks that might reside now in some of the largest market cap companies, but rather really investing in the theme at the broadest possible basis and benefiting from kind of like a rising tide in that AI theme. Overall, I would say it’s only one in about $4 inflows that we see into our ETFs that’s really concerned with these more diversifying strategies. The vast majority, of course, is still focused on really capturing beta in the US.

Deborah Fuhr And what does this mean for global equity investors?

Lukas Ahnert What we’ve been discussing is kind of an outperformance of the larger companies versus the average company, and outperformance of the sectors that are already big, say IT and Com services, for example, versus the other sectors, and an outperformance of regions that have already been kind of winning in the past, versus some other markets such as Europe or much of emerging markets, for example, that’s now much less represented in portfolios. And it’s a big risk that investors should be aware of. A global equities allocation now is 70% US and only 30% allocated to ex-U.S. And ex-U.S. is a very broad group of countries that we’re talking about here, right. It’s 22 developed markets. They make up about 50% of global GDP. But still they have kind of minor representation almost in, say, an index such as the MSCI world now. So a big task going forward will also be for investors to really steer these US weights and to identify what role should the U.S. market play in the portfolio, especially if you are a, say, European based investor and the US is not your whole market?

Margareta Hricova And what makes a world ex-U.S. a valuable component for constructing investment portfolios in 2024?

Lukas Ahnert We feel that using world ex-U.S. as a building block is a very straightforward approach, really, to tackle this question of balancing the US from an allocation perspective. It’s really a two line decision then for the investor, right, because there is maybe an existing US allocation and now there is an ex-U.S. building block, they can use to steer the overall allocation here. That of course replaces single country or regional allocations that would have otherwise been very complex to set up. Lots of different ETFs, for example, to bring together to achieve that now it’s kind of like a one line solution. The other big offering that I think comes with that is actually the opportunity to be more involved in index selection, specifically in the US. A dedicated U.S. strategy would then, for example, allow to play the US market more via equal weight or via an allocation to small caps such as the Russell 2000, for example. Those can be building blocks, or investors could also then dive into a more of a structural performance improvement for the US market as well. So, for example, a swap based implementation for the US leg of an allocation now becomes easily accessible because it’s just the other leg of the ex-U.S. product that is now needed. So both allocation options and selection options are now open to investors with this additional toolkit piece that we brought out.

Deborah Fuhr That was really interesting. Thank you for joining us.

Lukas Ahnert Thank you. It’s been a pleasure.

Margareta Hricova Thank you to Xtrackers by DWS for sponsoring this episode, and to all of you for watching. To watch prior episodes and to see news from the ETF industry, visit us at ETF  Thank you.

ETF TV news does not provide investment advice nor recommend products.


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Published on July 2, 2024