AdvisorShares converts Cornerstone US small-cap equity SMA into active ETF

Aug 9th, 2016 | By | Category: Equities

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US-based sponsor of exchange-traded funds AdvisorShares has launched the AdvisorShares Cornerstone Small Cap ETF (NYSE Arca: SCAP), an actively managed ETF seeking capital appreciation by investing in US small-cap equities with favourable fundamentals. The fund is the first actively managed ETF to successfully convert a track record from an existing investment structure, having originally been set up as a separate managed account (SMA) by Atlanta-based investment manager Cornerstone Investment Partners.

AdvisorShares converts Cornerstone US small-cap equity SMA into active ETF

Noah Hamman , chief executive officer of AdvisorShares.

The fund will still be sub-advised by Cornerstone, who specialises in US equity strategies and manages $3.1bn in assets for its individual and institutional clients.

“Cornerstone possesses an exemplary pedigree and track record of managing equity assets and we’re pleased to bring another accomplished portfolio manager to the actively managed ETF space,” said Noah Hamman, chief executive officer of AdvisorShares.

“Additionally, we’re proud to deliver another industry-first by successfully converting a track record from another investment structure, which now allows investors and advisors to access Cornerstone’s proven ability to deliver alpha through the daily transparency, intraday liquidity and overall efficiency of an actively managed ETF structure,” he said.

Cornerstone’s investment strategy is based on the notion that the market often misprices fundamental improvements and reacts slowly to recognising improving fundamentals, particularly among small-cap stocks. While investing in a variety of small-cap US equity securities, including common and preferred stock, ADRs, and publicly-traded REITs, the firm uses several factors for security selection, including changing performance expectations (positive earnings surprises), strengthening or weakening balance sheets (tangible book values), and financial flexibility (strong free cash flow).

The fund aims to hold approximately 240 stocks considered to have the highest anticipated fundamental improvement while roughly 60 stocks are traded quarterly based on changing relative attractiveness. Sectors are constrained at 15%, new positions are capped at 2% and existing positions are capped at 5%.

“Regardless of the environment, our investment focus remains to buy high quality companies at attractive prices while exercising the patience to unlock the value,” said Cameron Clement, partner at Cornerstone and co-portfolio manager of SCAP. “By focusing on such high quality names and eliminating unqualified companies from SCAP’s investment process, we believe investors and advisors will discover an attractive opportunity to enhance their small-cap equity exposure as a core allocation or as a complement to an index-based strategy.”

The AdvisorShares Cornerstone Small Cap ETF may appeal to investors as a satellite holding in a core-satellite portfolio structure. The fund may help diversify an equity portfolio by providing access to companies that are growing at a faster rate than large cap companies. Small-cap businesses tend to be more domestic oriented, therefore providing local investors with targeted exposure to the US economy and a degree of insulation from adverse changes in currency markets.

While exposure to the small cap factor has historically boosted risk-adjusted returns over the long term, the performance of small caps is generally more volatile on an absolute basis than large- and mid-cap stocks.

Since its inception in June 2012, the ETF’s predecessor account has outperformed the Russell 2000 Index, by far the most common benchmark for mutual funds that identify their style as small-cap. The Russell 2000 Index represents the market cap-weighted performance of the 2000 lowest ranked stocks in the Russell 3000 Index, a cap-weighted index maintained by FTSE Russell, which seeks to be a benchmark for the total US stock market.

As of 30 June 2016 the SMA achieved an annualised return of 14.5%, compared to 11.1% for the Russell 2000 Index, netting an annual 3.4% outperformance relative to its benchmark. Year-to-date, the SMA returned 3.6%, compared to 2.2% for its benchmark.

The ETF’s gross annual operating expense ratio is 1.14%; however, due to a contractual agreement, the fund’s net expense ratio will be capped at 0.90% for at least one year from the date of the prospectus (7 July 2016).

In the US the fund will be competing with the iShares Enhanced US Small Cap ETF (NYSE Arca: IESM), which offers actively managed broad US small cap exposure based on BlackRock insights on the combination of quality, value, and size factors. The fund has $24m in assets under management (AUM) and a total expense ratio (TER) of 0.35%.

While there are few actively managed ETFs in the US offering this exposure, there are a number of significant passive funds covering the US small cap space. These include the:
iShares Russell 2000 ETF (NYSE Arca: IWM), AUM – $27.2bn, TER – 0.20%
iShares Core S&P Small Cap ETF (NYSE Arca: IJR), AUM – $19.4bn, TER – 0.17%
Vanguard Small-Cap ETF (NYSE Arca: VB), AUM – $13.6bn, TER – 0.09%
Vanguard Small-Cap Value ETF (NYSE Arca: VBR), AUM – $7.7bn, TER – 0.09%
iShares Russell 2000 Growth ETF (NYSE Arca: IWO, AUM – $6.4bn, TER – 0.25%
iShares Russell 2000 Value ETF (NYSE Arca: IWN), AUM – $6.4bn, TER – 0.25%
Vanguard Small-Cap Growth ETF (NYSE Arca: VBK), AUM – $4.6bn, TER – 0.09%
Schwab US Small Cap ETF (NYSE Arca: SCHA), AUM – $3.6bn, TER – 0.08%

UK-based investors may consider the following ETFs for passive exposure to US small cap equities:
iShares S&P SmallCap 6—UCITS ETF (LSE: ISP6), AUM – $450m, TER – 0.40%
iShares MSCI USA Small Cap UCITS ETF (LSE: CUSS), AUM – $290m, TER – 0.43%
db X-trackers Russell 2000 UCITS ETF (LSE: XRSU), AUM – $260m, TER – 0.45%
SPDR Russell 2000 US Small Cap UCITS ETF (LSE: R2US), AUM – 72m, TER – 0.30%
Source Russell 2000 UCITS ETF (LSE: RTYS), AUM – $20m, TER – 0.45%

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