How investors can use ETFs for tactical exposures

With the market showing increased volatility, investors and advisors are looking for more options to offset potential risks

How investors can use ETFs for tactical exposures

With the market showing increased volatility in recent weeks, investors and advisors are looking for more options to offset potential risks. Calgary-based SIA Wealth Management, the portfolio manager for a trio of BMO GAM ETFs, feels they have done just that with their proprietary ‘relative strength approach’ to assessing market opportunities

SIA’s relative strength approach is the measurement of cash flows across asset classes. SIA’s top-level analysis examines equity flows to inform its portfolio managers’ next moves. If it shows that money is moving dramatically out of equities into alternatives, such as in the early part of 2008, the manager can reduce equity downside exposure by using bonds and cash.

At the secondary level, SIA uses relative strength analysis to identify where within equities money flows are moving. It was this strategy that helped SIA discover that Canadian equities were on the decline in the third quarter of 2011. From there, they focused their attention on US equities, a move that has offered significant differential between the markets since then.

At the third and final level, SIA uses the approach to identify the ETFs that are best positioned for ongoing growth.

“This understanding helps us to determine which asset classes, sectors and individual investments have the strongest relative price movement and offer the best risk versus reward,” says Jeremy Fehr, CEO, SIA Wealth Management. “We also are one of a handful of companies that have the ability to go to 100% cash in our mandates, offering the best risk protection in uncertain times, such as 2002 and 2008.”

SIA applies this stringent approach to the BMO GAM funds it manages: the BMO Tactical Global Equity ETF Fund, BMO Tactical Global Bond ETF Fund and BMO Tactical Global Asset Allocation ETF Fund.

“In all three funds, we have full discretion to manage the monies following our proprietary relative strength methodology,” says Fehr. “We analyze the entire universe of ETFs in Canada and the U.S. and select the best mix of ETFs to achieve risk managed growth in the funds. BMO GAM has allowed us to have at our discretion the ability to use money market ETFs in our equity funds to dramatically reduce downside exposure during corrections like 2008.”

Recent activity has caused some investors to act emotionally, which is always a worry, but Fehr says a relative strength strategy can help investors sift through this noise and identify volatility for what it is.

“We are able to see, by using relative strength when volatility shifts from short term to intermediate term, which indicates the risk is on the rise and that we need to reduce our exposure to equities across our funds,” he says. “To date, the recent activity has not indicated a longer or deeper correction.  If that changes we are poised to act decisively to reduce risk.”

While Fehr doesn’t see the recent drops translating into a massive correction, he does believe that a relative strength approach will help to predict when the next major downturn is on the horizon. “We can see weakness creep into the markets using relative strength months and usually quarters before the larger corrections appear. This works because the larger investors in the markets need months, quarters, and even years to reallocate away from equities into safer positions.”

Fehr believes that ETFs, and the relative strength analysis strategy, offer an efficient way to rotate new leadership in portfolios and gain exposure to new markets during periods of volatility.

“ETFs are quite simply the most efficient way to get exposure to many markets tactically for large or small investors,” he says. “They allow us to quickly rotate at the macro levels and we can get more granular with our portfolios through individual securities later. Should we see the current volatility turn into a full-blown correction we have the ability to purchase money market ETFs for the entire portfolio to remove equity risk.”


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