The Acquirer’s Multiple comes to ETFs

Breaking: Thomas Carlisle puts your money where his mouth is

Thomas Carlisle, the brain behind the best-selling book the Acquirer’s Multiple, is putting your money where his mouth is, listing an ETF that follows the value investing principles laid out in his books.

The Acquirers Fund (ZIG), which will begin trading on the NYSE next month, will follow the deep value investment strategy that he sets out in his books. It tracks an index composed of a 130% long position on deep value US large caps and a 30% short position the “most overvalued, fundamentally weak,” US large caps, the prospectus says.

To decide which companies are valued and overvalued, the index uses a several-step process. It starts by evaluating companies for fraud, earnings manipulation and financial distress. And then moves on to outright stock picking.  

Each potential long component is examined for “a margin of safety” in three ways:

(a) a wide discount to a conservative valuation,

(b) a strong, liquid balance sheet, 

(c) a robust business capable of generating free cash flows.

Each potential short component is examined to identify

(a) a large premium to an optimistic valuation,

(b) a weak, distressed balance sheet, and 

(c) a deteriorating business and stock price.

As a final measure, the index conducts “a forensic-accounting due diligence review” of the companies,

Companies that jump through all these hoops are included. Each undervalued position will be weighted to about 4% while each overvalued position will be shorted to about 1% of the Index value. The Index is reconstituted and rebalanced quarterly.

Analysis – I’m not so sure

For me, this listing raises a number of questions:

1. If this fund can reliably produce alpha, why isn’t it launching as a hedge fund and charging 2/20? A lot of active managers in recent years have left the hedge fund industry and come over to ETFs. The explanation they often give is that they believe in ‘democratising’ finance. They believe in helping out the little guy and believe ETFs are the better way to do that. My own, perhaps cynical, view is that active managers have been unsuccessful in selling alpha to institutional investors, so they’ve started selling high priced beta to advisors via ETFs. So for me a big question mark here is: if there is alpha to be had here it should be a high fee hedge fund. 
2. From what I’ve seen, none of the deep value ETFs have beaten the S&P 500 the past five years. The Deep Value ETF (DVP); Meb Faber’s global value ETF (GVAL); AGFiQ’s market neutral value fund (CHEP) – none of them are providing a return above the market. ZIG is another deep value ETF. In defence of the value approach, quants like Larry Swedroe say that “ten years is nothing” and that value can underperform for long periods. We’ve been here before, they argue, the academic evidence is strong. For my part, I’d rather wait and see. 
3. Have large cap value stocks become too crowded a trade? Every time a US blue chip blows 20% of its price, legions of value investors steam in. The most recent example of this seems to be Boeing. After its 737 Max killed 300 people, Boeing’s share price remained at near all-time highs. Every time it dipped it was bought back up, something we’ve seen with Facebook as well.