About the Editor
Samuel Lee is an ETF strategist for Morningstar and editor of Morningstar ETFInvestor, a monthly investment newsletter. Prior to becoming editor, Lee was a fund analyst on Morningstar's passive funds research team, where he covered alternative, dividend, and actively managed ETFs and performed quantitative modeling of ETF strategies.

Lee joined Morningstar in 2008 as a data analyst, where he evaluated ways to measure and improve the firm's data quality.

Lee holds a bachelor's degree in economics, with honors, from Grinnell College.


Investment Strategy
Morningstar ETFInvestor scans the globe for value and improving fundamentals across virtually all asset classes. Editor Samuel Lee draws upon academic and practitioner research — including Morningstar's sizeable bench of stock, bond and fund analysts — to find reliable drivers of outperformance.

Morningstar ETFInvestor features two real-money portfolios.

The ETF Income Portfolio assembles a high-quality collection of income-generating ETFs with the goal of earning 5% in excess of the 30-day T-bill rate over a full business cycle. The portfolio adheres to a benchmark-agnostic strategy in its search for absolute returns.

The ETF Global Asset Allocation Portfolio, on the other hand, is more benchmark sensitive. It seeks undervalued asset classes with improving fundamentals. The strategy seeks to beat the 60/40 MSCI ACWI/Barclays US Aggregate benchmark over a full business cycle, with the least risk possible.

 
 
Apr 24, 2014
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Samuel Lee,
Editor, Morningstar ETFInvestor
Samuel Lee is an ETF strategist for Morningstar and editor of Morningstar ETFInvestor, a monthly investment newsletter. Prior to becoming editor, Lee was a fund analyst on Morningstar's
Featured Posts
Value or Growth?
As a reminder, the April edition of ETFInvestor was released. Download it here.
 
GMO last week released its latest asset-class expected returns forecast. Consistent with past forecasts, GMO expects everything other than timber and emerging-markets stocks to offer low to terrible returns. The worst assets right now are U.S. small-caps, U.S. value/low-quality, and international bonds. Pockets of relative cheapness include U.S. quality, emerging markets, emerging-markets debt, and international value.

Under its old methodology, GMO assumed price/earnings and profit margins would revert to the mean over seven years. The new methodology, unveiled late last year, is still a mystery to us folks who aren't institutional clients. According to Ben Inker, it emphasizes the idea that stocks should sell at replacement cost and that "the return on capital and the cost of capital need to be in equilibrium over the long run." GMO uses multiple proxies for economic capital and is sticking with seven years as the period over which valuations revert to the mean. The new methodology sounds like a robust Tobin's q. I'm not sure if it's an improvement, as I suspect more of today's "economic capital"--the "thing" that generates profits, as Inker puts it--is really human capital, which is hard to measure.

Interestingly, the original document included a second page with forecasts for styles, but it seems GMO had second thoughts and removed it. A copy of the original file is still available on the Internet.

In the United States, GMO expects growth to beat value. In foreign developed markets, it expects value to beat growth. While GMO doesn't provide emerging-markets value and growth forecasts, just going by the past few years of performance, it seems emerging-markets value is much cheaper than growth (think Russia versus Malaysia).

I mostly agree with GMO's relative valuation estimates. However, our portfolios tilt a bit away from GMO's suggested style bets. Our U.S. funds lean toward value thanks to PowerShares S&P 500 Low Volatility SPLV and Financial Select Sector SPDR XLF. Our international funds are square in the blend area of the Morningstar Style Box. However, like GMO, we favor international and large-cap stocks. Factor regressions suggest that the low-volatility funds we favor provide quality and value exposure. I'm hesitant to dump them to chase GMO's style forecasts, as other research I've seen suggests that timing value and quality is hard. 

That said, I would love to overweight countries like Russia and Greece. Their normalized earnings yields are absurdly high; the market is pricing in Armageddon. As long as something short of Armageddon occurs, those markets will do very well. However, low-cost, liquid, and efficient exchange-traded funds that exploit this idea don't exist. If I restrict myself to liquid funds, I could cobble together a deep-value portfolio of individual country funds, but it goes against my distaste of high-fee funds and owning too many funds. Cambria Global Value GVAL is promising, but it's too small, expensive, and illiquid for me to buy right now, not to mention it’s trading at a persistent premium. While Schwab Fundamental Emerging Markets Large Company FNDE and Schwab Fundamental International Large Company FNDF have more palatable expense ratios, they also trade at persistent premiums. WisdomTree Emerging Markets Equity Income DEM is worth considering, but it's expensive. I'm sticking with the iShares Minimum Volatility ETFs, which remain the most efficient means of obtaining non-market-weighted foreign-equity exposure, though I expect that to change within a couple of years.

U.S. fund prospects are more promising. IShares MSCI USA Quality Factor QUAL and iShares Enhanced U.S. Large-Cap IELG are two outstandingly cheap funds that offer desirable factor exposures. QUAL's exposures, however, are in large part redundant with Vanguard Dividend Appreciation’s VIG. IELG isn't liquid enough, and I find iShares' materials on it (even for "institutions") uninformative.

Bottom line: GMO says favor quality in the U.S., value abroad. Daring investors willing to patiently trade some of the smaller, less liquid international-value ETFs should consider doing so: GVAL for the daring, FNDF and FNDE for the less daring.
Portfolio Holdings
Income Portfolio
ETF
YTD Ret %
Price $
2.3
107.2
CASH$
N/A
1.0
-0.6
57.9
3.0
63.5
6.7
12.5
4.8
23.1
10.7
32.3
3.0
34.2
0.8
22.0
Global Asset Allocation Portfolio
ETF
YTD Ret %
Price $
2.3
107.2
CASH$
N/A
1.0
-0.6
57.9
2.8
23.1
13.3
32.3
3.0
34.2
-0.2
41.6
0.3
76.0
0.8
22.0
Most Popular ETFs
ETF Name
YTD Rtn %
3 Yr Rtn %
Trading Vol.
NASDAQ 100 Trust Shares
-10.76
1.45
125,000,944
SPDRs
-3.64
2.68
87,466,496
Semiconductor HOLDRs
-6.23
-11.66
26,838,700
iShares MSCI Japan Index
-6.59
7.18
17,256,500
iShares Russell 2000 Index
-7.46
6.43
16,210,700
Energy Select Sector SPDR
15.88
15.50
14,900,000
Financial Select Sector SPDR
-8.42
2.61
11,612,800
DIAMONDS Trust, Series 1
-3.75
2.21
7,350,600
Utilities Select Sector SPDR
6.84
6.82
3,848,200
Materials Select Sector SPDR
-4.31
8.50
2,179,300
 
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