MUTUAL FUND Investor Guide THE ETF Investor Guide mutualfundinvestorguide.com SPECIAL REPORT: Matthew D. Sauer Founder & Chief The Best Equity ETF to Buy for 2015: Investment Offi cer WISDOMTREE MIDCAP DIVIDEND (DON) Matthew Sauer is the Last year belonged to the large cap indexes. formation available on the company, and that as Founder and Chief While mid caps and small caps turned in de- soon as new information is available, it is imme- Investment Offi cer of cent returns, leadership belonged to the mega diately priced into the stock. Investors can gain the Mutual Fund Investor cap stocks that dominate the S&P 500 Index. no advantage by researching and trading stocks, Guide family of Mid cap stocks represented by the S&P Mid- and by the time an investor hears any news, the newsletters. Each month Cap 400 were still down for the year in Octo- stock market has already factored it in. The best he analyzes and provides approach under these conditions is simply to buy buy, sell and hold ber before a late rally pulled them into positive territory. The story was similar for their small the market. Taken further, this approach leads to recommendations for the concept that capitalization-weighted portfo- hundreds of mutual funds cap brethren, which spent much of the year lios deliver the highest expected returns for an and ETFs in the Investor under water. expected level of risk while simultaneously pro- Guide to Fidelity Funds, In 2015, mid-cap stocks look more attractive, and viding the minimum risk for a desired return. The Investor Guide to Van- we think they stand a good shot at beating large result is an effi cient investment with known risk/ guard Funds, as well as caps this year. Instead of taking an aggressive ap- the ETF Investor Guide. return characteristics. Although this approach proach to mid caps, however, a value approach has a tremendous infl uence on investment pro- is more appropriate. Some sectors, such as en- fessionals, many fi nancial and academic experts Prior to founding the ergy and consumer discretionary, were hit hard disagree with the premise. They believe that the Mutual Fund Investor in 2014, and our pick for the Best ETF in 2015 is market is not always effi cient. Guide, Matt was the a fund that rotates out of overvalued companies President and Chief and into undervalued ones. Mid-caps should per- NOISY MARKET HYPOTHESIS Investment Offi cer of form better relative to large caps in 2015, and if This hypothesis says that there is “noise” in the the Fidelity Independent sectors such as consumer discretionary rebound markets and that they are not always effi cient. Adviser, ETF Report, from a poor 2014, WisdomTree MidCap Divi- Analysts believe other factors infl uence and ex- and Sector Momentum dend (DON) is positioned to benefi t. plain the broad movements in stock prices. The Tracker. Over the past 20 years, there has been a prolifer- Noisy Market Hypothesis is the one preferred by ation of exchange-traded funds (ETFs), and new WisdomTree because conventional wisdom has recognized that a security can experience periods Matt Sauer earned his investment products are being introduced on a of irrational frenzies and bubbles. These events Juris Doctor from Albany regular basis. Different fi rms have different ap- Law School of Union proaches, with most funds falling into the cate- can cause its price to fl uctuate widely from its University in Albany, NY. gory of market capitalization-weighted indexes perceived underlying fundamentals and fair Mr. Sauer is a licensed such as the S&P 500 Index. There are several value. Factors that infl uence traders include ru- attorney in the State of other approaches, though, ranging from the Rev- mors, incomplete information, emotion and the New York. He received his enueShares model that uses revenues to weight desire to trade based on past price movements. Master of Business holdings to WisdomTree’s dividend approach. Investors, traders and institutions also may sell shares based on reasons not related to the under- Administration, from the Market Capitalization-Weighted Approach State University of New lying valuation of the security or its issuing com- York at Albany and his The fi rst group of ETFs and the majority that pany. These factors include liquidity, fi duciary Bachelor of Arts in Political have followed create their portfolios based upon and tax reasons. Science and Economics market capitalization-weighted indexes. These If this hypothesis is correct, the price of stocks from Bucknell University. indexes are most favored by investors who be- is not a clear, unbiased estimate of the securi- lieve in the Effi cient Market Hypothesis, which ty’s true value. As these changes take place in states that a company’s price represents all in- the market, investors can be swept up into a 1 THE Investor Guide TO FIDELITY FUNDS buying or selling frenzy. Emotions can a three-month average daily trading vol- managed funds in the value category. This lead to the expansion and collapse of ir- ume of more than $100,000. The fund is outperformance increases to 95 percent rational bubbles. A prime example is the then weighted based on an individual is- over the past five years. overvaluations created in market capital- sue’s share of the dividend stream, or on ization-weighted index funds during the the total sum of all regular cash dividends WISDOMTREE MIDCAP late 1990s tech bubble. A Noisy Market paid by all shares within the index. DIVIDEND COMPOSITION This Dividends of a Dividend Approach approach would have avoided this situa- Indexes are rebalanced annually based is used by WisdomTree to create its Mid- tion by reducing the importance of these on criteria that adjust the portfolio’s Cap Dividend ETF (DON). Established in stocks within the portfolio. In 1984, weighting based on the concept of rela- 2006, the ETF invests at least 95 percent famed investor Warren Buffet wrote that tive value. The portfolio is shifted from of assets under management in securities the market is inefficient because a “herd” stocks demonstrating lower rates of div- contained in the benchmark WisdomTree mentality can set prices on the margin. In idend growth to those that have shown a MidCap Dividend Index. Other invest- a Wall Street Journal op-ed piece in March higher rate. This means stocks that have ments may be included in the fund if they 2000, Jeremy Siegel provided an analysis risen in price but do not have an accom- have identical fundamental characteris- of the tech bubble that also revealed lim- panying increase in dividends will re- tics to those contained in the underlying itations of the market capitalization meth- ceive a lower weighting than stocks that benchmark index. The fundamentally odology to index investing. demonstrate the opposite fundamental weighted index comprises dividend-pay- characteristics. The approach runs counter WISDOMTREE’S DIVIDENDS ing securities issued by midsize capital- to what would happen in a market capital- OF A DIVIDEND Approach ized U.S. companies. ization-weighted fund, where stocks that If markets are inefficient, then a capital- have increased the most became a larger The WisdomTree MidCap Dividend ization-weighted approach may not yield share of the total index. Index is comprised of the top 75 percent the best risk/return performance. As a of stocks by market capitalization in the The reconstituted index is weighted more result, WisdomTree follows a fundamen- WisdomTree Dividend Index, after the heavily toward higher dividends and in- tally weighted index approach. The firm 300 largest companies have been re- creased dividend growth while being less believes this style of investing provides moved. The Index is dividend-weighted exposed to more volatile and speculative the opportunity to add returns while low- annually to reflect the proportionate share issues. This creates an index slanted to- ering risk. Portfolios are weighted based of the aggregate cash dividends each ward value, as growth stocks that pay on fundamental factors because this leads component company is projected to pay small or no dividends are not included to a concentration in undervalued stocks in the coming year, based on the most re- in the index. This value-versus-growth while minimizing exposure to those that cently declared dividend per share. This dichotomy explains a large part of the are considered overvalued. means that companies are weighted based difference between the performance of a This fundamental weighting is combined on how much money they spend on div- WisdomTree Index and that of a broadly with passive management as the bench- idends, not on how much they yield. For focused market capitalization-weighted mark indexes are tied to less volatile example, a company that pays $500 mil- index. A dividend stream-weighted ap- measures such as dividends and other lion in dividends but has a 1 percent yield proach improves the trailing 12-month company fundamentals. Historically, is weighted more highly than a company dividend yield and increases the amount dividends have played a key role in de- that pays $300 million in dividends but paid to investors seeking additional in- termining a stock’s value. They also have yields 2 percent. come, such as retirees. The Dividends provided a majority of stock market re- of a Dividend methodology also protects turns over time. In addition to being an PortFOLIO AND HOLDINGS investors during market bubbles while objective measurement of a company’s The portfolio of this $1.33 billion ETF is producing the benefit of higher dividend financial position (accountants can twist invested entirely in U.S. securities and has growth. It may also soften the severity of a balance sheet, but cash in the hands of an average market cap of slightly more a bear market downturn.