The Innovator IBD 50 ETF (NYSEARC:FFTY) is an equity-based investment vehicle that adheres to the principles of the CAN SLIM investment system. FFTY’s approach is what I would prefer to call a “quasi-passive” approach, as it has high turnover, with a frequently rebuilt portfolio almost completely, the exposure changes being nothing short of tectonic.
The last time I covered this ETF was in August, with a Hold rating, and there are a few reasons why FFTY is worth a closer look today.
Firstly, the portfolio has undergone a major recalibration since then, with holdings present in the August release only having a 27% weighting in the current (November 17). In other words, we need to understand how this basket of stocks has evolved and what factors are now at play.
Second, FFTY significantly underperformed the S&P 500, falling 10.9% vs. 3.6%. In all honesty, I didn’t expect such a steep drop, although I warned that high spending and uneven past performance were not supportive of a bullish thesis.
Overall, we see FFTY’s price down about 44% year-to-date, eclipsing declines in the Invesco QQQ ETF (QQQ) and the iShares Core S&P 500 ETF (IVV), and such a remarkable underperformance welcomes buying thoughts of the downside. In this regard, we should revisit the portfolio to consider whether a buying opportunity has arisen.
As a reminder, the FFTY combines fundamental and technical analyzes based on the CAN SLIM model in its portfolio calibration process. The components of the IBD 50 index are scrupulously selected from a universe of approximately 7,000 American and international securities. The index is replenished weekly, so FFTY’s staggering turnover of 1,133% (at the prospectus) is no surprise.
In short, the eleven factors taken into account are mainly related to quality and growth. EPS and sales growth rates are also among the parameters examined. More details on the complicated rules can be found in the fund’s prospectus website.
In other words, it is a concentrated basket of stocks focused on growth and high conviction momentum. However, he does not deliver.
Let’s take a look at the current version of the wallet. First of all, momentum is what deserves attention. As of November 17, only four of FFTY’s fifty holdings had generated negative returns in 2022 so far, namely Wingstop (WING), interactive brokers (IBKR), pure storage (PSTG), and Charles Schwab (SCHW). As can be seen, they decreased only modestly, surpassing IVV.
The other stocks in the basket have a median return since the beginning of the year of 46.6%. However, the problem here is that it’s clear most haven’t contributed to FFTY’s performance this year. As I said above, only 27% (ten stocks, mainly from the energy sector such as Occidental Petroleum (OXY) and Matador Resources (MTDR)) in the current basket were among the holdings in August.
In terms of sector mix, his portfolio is now heavily overweight energy, with ~55.8% of net assets allocated, a 4.5x increase since August. Healthcare, the top sector with over 29% weight in my previous article, now only has about 15%.
One could easily explain why exposure to energy has changed so markedly. Oil and gas prices fell, adding momentum to energy stocks while bolstering their growth prospects. To corroborate this, FFTY’s median energy investment revenue growth rate over time is a staggering 32.3%, with the same rate for all 50 holdings at around 31%; a weighted average is a phenomenal 41.3%. The median forward EBITDA growth rate (excluding three stocks with no data) is around 48.7%, according to my calculations.
Yet when energy stocks (primarily those most influenced by oil prices, namely exploration and production and OFSE) were skyrocketing, for example in March, as we have known for the investor’s guide, FFTY was overweight in IT (26.24%), perhaps the most beleaguered GICS sector this year due to the rich growth premiums inherent in tech names. It also had an allocation of over 20% to the technology sector as of August 3.
And this is a nuance that investors should consider carefully. Even despite a multi-stage and convoluted strategy, FFTY is often late to the party. Another way of saying, it missed the energy rally this year, but bore the brunt of the tech sellout.
Next, I think it would be relevant to make a few remarks on valuation. For example, since we have net profit (or loss) data for all holdings, we can obtain portfolio earnings yield by dividing the sum of net profits by the sum of market capitalizations. The result here is around 8.3% or a P/E ratio of 12x; S&P 500 ETFs website shows a figure of 19.1x.
Cash flow and debt-adjusted earnings returns are less of an option as there are three financial companies in this mix, however, we can rule them out. When removed, the DA earnings yield is approximately 13.4%; the return on cash flow amounts to 12.4%. It’s a solid level that I consider valuable territory. Also, it sounds good with ~39.5% of the portfolio having at least a B-Quant Valuation rating, about 2% more than in August.
But please don’t expect me to upgrade FFTY to a purchase for this account alone for some prosaic reason. Unfortunately, since FFTY is not striving for consistency and stability, but rather trying to catch up (not always successfully, though), the results of this analysis could totally become irrelevant within a week in case the portfolio would once again undergo a major recalibration. Moreover, the seemingly high yields are the likely consequence of the fund’s rotation into energy stocks, those whose valuations have traditionally been modest. For example, even after a one-year wild ride with a price return of over 79%, Exxon Mobil (XOM), the supermajor and FFTY’s stake with a weight of around 3%, is trade with the DA earnings yield of around 16.7% and with the forward figure at 22.6%.
FFTY is an extremely high turnover and expensive ETF with low risk dispersion due to the high conviction strategy with holdings limited to just 50 names. It has significantly underperformed IVV and QQQ this year, with other timeframes also barely supportive of a bullish view. Interestingly, as I already discussed in the previous article, FFTY was strangely unable to beat the market and QQQ technology indicators in 2020, when the zeitgeist favoring dynamic high-growth games was almost perfect. And amid prolonged volatility and changing investor sentiment in 2022, his strategy has also been unable to capture winners and avoid losers if necessary. Overall, its delivered CAGR over the period May 2015 to October 2022 is 1.36% compared to 10.63% for IVV.
His strategy is labyrinthine and rich in nuance, but underdelivered. What I like is that FFTY mixes the profitability factor (i.e. via return on equity) with growth, an enticing combination, again that doesn’t translate to alpha steady and steady.
To 80 basis points, the fees are high, even taking into account the contractual fee waiver. This is totally justified for a fund with such a high turnover rate and a nuanced methodology, although past performance shows that investors have not been consistently rewarded with alpha despite such high fees. Overall, I wouldn’t say FFTY deserves an upgrade today, so the conservative Hold rating stands.