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Give Up Day Trading And Beat The S&P 500 With...An Equal-Weight S&P 500 Index Fund

BROAD, Apple Inc. NASDAQ:AAPL - Give Up Day Trading And Beat The S&P 500 With...An Equal-Weight S&P 500 Index Fund

Index Funds launched the S&P 500 Equal Weight TickerINDEX index mutual fund earlier this month, one of the only instruments of its kind on the market today. Benzinga sat down with Index Funds' Michael Willis to discuss the strategy of the fund, the difference between equal-weight and cap-weighted index funds and how to beat the S&P 500 with...the S&P 500.

Introducing, INDEX

Benzinga: Hey Mike, how's it going?

Michael Willis: Good, Nick. Thanks for taking our call.

BZ: The first thing I wanted to talk about was, first and foremost...tell me a little bit about the index. I've done my research, but I want an overview for other people who aren't familiar with mutual funds and ETFs and how the market cap is composed.

MW: The S&P 500 index, of course, is the most widely benchmarked index on the planet. So, even though the Dow Jones is quoted on a daily basis, on the nightly news the S&P really is the one the managers track, and it's the most widely benchmarked, and it's of course the top 500 largest companies in America, but the scope is really global when you look at the companies -- Google Inc GOOG 0.65% GOOGL 0.81% and Facebook Inc FB 1.35% and Apple Inc. AAPL 0.89%, and the rest of them, they're all global in scope except for some of the ones at the back end of the 500.

So, it's a market cap weighting of the S&P 500. That's what most people understand the index - actually, I don't think most people understand the index that way. But the widely held S&P 500 index is a market cap weighted.

So, you have the top 50 largest companies actually comprising more than 50% of the index. I think that's key for what I'm about to tell you. So, what happens there is it's closer to an S&P 300 index, because the bottom 200 of those 500 companies barely show up percentage-wise in the portfolio.

BZ: S&P 300? What?

MW: When we found the S&P 500 index equal weight, we got really excited, because not only was the performance better across the board since its inception, but it's the simple, logical, pure version of the S&P 500. I think, if you ask the average person on the street, it's probably what they thought they owned when they bought the S&P 500, because they got all 500 equally. So, it's the S&P 500, and Apple, Google, is not weighted any different than any of the other 498 companies constituents in the index.

Now, they choose those constituents based on their market cap, so the size does matter. You have to be the biggest 500 companies out there to make it into the model. And it's changing. It's a fluid model. We get updates daily from the S&P on the model. And it's amazing how many changes the make. They just don't make changes quarterly or semi-annual or annual, they're adding them all the time. Companies are dropping out, they're bringing companies in, there's merges and acquisitions, there's consolidations; and so, that index is really a fluid index.

BZ: Do you re-balance quarterly, yearly... how many times do you re-balance for the index fund?

MW: We balance - it is quarterly, and that is set by Standard & Poor's. So, we're now tracking an index. So our job is not to tinker with it. Our job is not to try to influence our own thought process into the model. Our thought process, our objective, has no tracking to the index. And yet, standard practice re-balanced that index quarterly, and all 500 components go back to the same weighting every quarter, and then they free-float in between those periods. As one of the 500 takes off and does quite well, and another does quite poorly, it's gonna obviously be a lower percentage during that interim period, and the one that's doing well will be a higher percentage, and then it re-calibrates three months later on re-balance day.

The Competition

BZ: Compare yourself to some competitors like Guggenheim, Invesco; I know they have similar equal-weighted products. Stack up yours to those competitors.

MW: Okay, we're identical. There is no difference, other than our fee structure. With Invesco, I should say -- because, Guggenheim is an ETF. The ticker symbol there is RSP. And Invesco is a 1940 traditional mutual fund which trades once a day. So, the basic difference between Guggenheim and Invesco and our model is that Invesco and I re-balance...strike an NAV, a net asset value, once a day.

So you can trade in and out of our funds once a day. Whereas Guggenheim allows you to trade in and out of it all day long. You can short an ETF. There's definite advantages in terms of liquidity with an ETF. However, I think if you saw on Black Monday, RSP fell 43 percent for about 30 minutes at the open there during a period where the underlying 500 constituents were only down 5 and 6 percent. So you've got a problem there. There's some risk that comes with catering your fund to day-traders.

So, the main difference between us and Guggenheim is they cater to day traders, so you can trade it all day long, you can short it. So you're susceptible to high-frequency traders, we call the HFTs. You're susceptible to shorting. And you're susceptible to market volatility. And so, I don't know how much you pulled up Guggenheim yet, but there's about 20 articles that really focused in on why they fell 43 percent on Black Monday three weeks ago when the rest of - we were only 1/10th of 1 percent deviation from our underlying constituents when we struck our NAV.

We did not experience that volatility that Guggenheim did.

Black Monday 2015 And Risk

MW: ...If I'm sitting there and I'm a foundation -- there was over $10 million in RSP on that day. It fell $4 billion there briefly. And it bounced right back, to be fair. But if I'm sitting there and I have $10 billion in the market, and all of the sudden I have $6 billion, that's a problem, especially when the underlying were only down 5.6 percent at their worst point during that morning, when the market gapped down 1,000 points.

So, we're actually very happy to cater to investors who don't want to day-trade. And really, there's 15 trillion of them, because there's $15 million of assets in our space, and ETFs is the fastest-growing space. But there's still only $2 trillion over there for the people that want to day-trade and short their ETFs and do some of that other fancy stuff.

BZ: It seems like your index also has better fees in terms of those competitors. I was looking that up. Like you said with the ETF, you're suspect to more market risk on a daily basis. It's a little bit scary for those of us who are not quite in the know of the workings of day trading and the psychology of it. It seems like INDEX is meant for 1, 3, 5, 10 years down the road. Am I right? Is that the timeline you're looking at?

MW: That's exactly right. And we love the 401K plan, IRA...We cater to the longer-term hold investor. And frankly, what this came down to is, we spent 20 years trying to beat the S&P 500 and we couldn't. So, we get excited about that fact -- because, we think we're not alone.

Warren Buffett And Beating The S&P

MW:Look at Warren Buffett. Two years ago, he announces that when he dies, he's gonna tell his heirs just to put 90 percent in the lowest cost S&P 500 and 10 percent in cash, and that's all he's gonna tell them to do, because frankly, Buffett's been having difficulty beating the S&P 500, and I don't know how much you paid attention to the dialogue, but, every year during his annual report, we all watch it because he's arguably the best trader on the planet.

And he's said in the past that if he can't beat the S&P, he needs to be fired. And so, every year, they show his trading five years against the S&P 500, and every year, he's had a better trailing 5 than the S&P up until 2014. We were all wondering what he was going to do, because in 2014, we really got soundly beat in 2013 in our portfolios, and so did Buffett. And it was such a trouncing that it ruined his 5-year trading fly number. He no longer beat the S&P.

So, I think a lot of money managers out there like me, like Buffett, are just finding it hard to beat the S&P. And so, we got an opportunity to use our ticker symbol, INDEX, to pick the best index on the planet...Our goal, though, is to be the low-cost provider. So we're sticking our neck out here and saying we think we found the best-kept secret on Wall Street in terms of indexes. And we've got an easy ticker for everybody to remember. We're gonna be the low-cost provider, and we think that's our winning ticket.

The Memorable Ticker

BZ: How did you guys luck into having INDEX as your ticker? It's really identifiable. It seems like it'd be an easy thing to sell, right?

MW: You know, to be honest with you, I think that's a $20 million gift right there. That's a gift from God. I'm not gonna take any credit for that. But in my mind, from a marketing standpoint, it's worth -- to the right company, and hopefully that's us -- it's worth $20 million. I love John Bogle. I think he was right from the beginning. They laughed at him when he first rolled out the S&P 500 index. And they said, "Why would we want to ever own something that only got market returns? We're managers, we're paid to beat the market," and it just didn't make sense to them. And now, look.

Over $1 trillion, the largest mutual fund company in the world, and John Bogle was proven right. I would think he would love that ticker, but they prefer all their tickers to start with VF for Vanguard Funds. We're just happy we were able to land it, and excited that we can move it forward and hopefully make it easy for people to tell other people...And really, we could only beat the S&P with the S&P. And that's the fun part of this. We didn't have to go outside of the S&P 500 to beat it.

The Proof Is In The Pudding

Beating the S&P 500 with the S&P 500.

BZ: There was a notable financial blogger, Michael Batnick...he brought up the fact that while he does like your INDEX product, you could possibly get pretty similar returns with the S&P mid cap 400 that Vanguard has indexed as a fund based off of that index, and it has pretty similar correlation, except the BPS -- they charge 15 basis points less than your current fund. How would you counter this claim?

MW: What you miss there though is the top 100. As much as we say we want the equal weight throughout the portfolio, we would hate to give up Apple and Google and Facebook. To get that 400, you're gonna be giving up a lot of most of the well-known names of the S&P 500. And that's a space we don't want to pull ourselves out of.

BZ: How much are you looking to have in terms of assets under management? What's your goal?

MW: Yeah. We think there's about $15 billion in the equal weight space right this minute, between RSP and Invesco. But, depending on the numbers you look at, there's upwards of about $100 billion in the S&P 500 market cap portfolios out there. So, our real competitor is SPDR S&P 500 ETF Trust SPY 0.06%, which is the S&P 500, the largest ETF in the world, and some of these other S&P 500...


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